asdowngradedandsubsequentlybailedout.Inaddition,theFederalReserveandtheTreasurywerescaremongeringabouttheprospectsofasecondGreatDepressiontomakethepassageofTARPmorelikely.ThuswewillneverknowifthemarketdownturnthatfollowedtheLehmanbankruptcyre?ectedfearofcontagionfromLehmantotherealeconomyorfearofthedepthsofexistingproblemsintherealeconomythatwerehighlightedsodramaticallybyregulators.Inthispaperweanalyzethemechanismsbywhichsuchriskcouldcauseaneconomy-widecol-lapse.Wefocusontwotypesofcontagionthatmightleadtosystemicriskproblems:(1)informationcontagion,monriskfactors;or(2)counterpartycontagion,whereoneimportant?nancialinstitution’scollapseleadsdirectlytotroublesatothercred-itor?rmswhosetroublessnowballanddriveother?rmsintodistress.Theef?cacyofTBTFpoliciesdependscruciallyonwhichofthesetwotypes
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