The urge to build empires makes for fragility. Corporate empires are commonly built on debt, instead of equity. I illustrate fragility by the debt-equity ratio. A firm with a low debt-equity ratio has the shape of a pyramid, while a firm with a high debt-equity ratio has the shape of a Martini glass. Do I need to explain that a Martini glass is more likely to topple than a pyramid during an earthquake? The answer has not escaped central banks. They now administer artificial stress tests on the biggest banks to determine which ones are “too fragile.”
KeywordsFragility Capital structure Debt Leverage Domino effect Stress test
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