UVA Economist Receives Prestigious Ross Prize

The award recognizes “Leverage Cycles and the Anxious Economy,” a paper the pair published in the American Economic Review in 2008. The Foundation for Advancement of Research in Financial Economics is presenting the award.

Named after an economist who taught at Yale and later at MIT, the Ross Prize is presented to recognize and encourage significant contributions to research in financial economics. Fostel and Geanakoplos’s paper and subsequent work have improved understanding of the effect of leverage on asset prices and the dynamics of collateralized borrowing against financial assets.

— Ana Fostel, University of Virginia economics professor.

“How does the fact that you can use a house as collateral affect the price of the house?” Fostel said. “Usually there is a standard way of pricing assets that says the asset price should reflect its fundamental value – its future cash flow, this includes the utility you get from living in the house and possible capital gains. We show that if assets can be used as collateral, then the price of the asset should not only reflect its fundamental value, but also its role as collateral.”

The theory has policy implications and can work as an early warning signal of economic trouble.

“We used to look at interest rates to see whether we’re going into a crisis,” Fostel said. “What this theory is telling us is that we should also be looking at collateral requirements, or what we call margin requirements, to know how much you need to hold as collateral to be able to borrow a dollar. Just before a crisis, those margin requirements become super tight. You need to post a lot of collateral, whereas maybe two months before, you didn’t need as much collateral and you could leverage much more. Before every crisis, you can see margins spike, which means that the markets are getting very, very, very, very nervous.”

For Fostel, the research is a continuum. Geanakoplos started working on these theories in 1997, and Fostel joined him in 2003 as a graduate student.

“Many people are working on these topics, currently I have two [doctoral] students who are expanding and extending these models to have a better understanding of all these issues in a more concrete way,” Fostel said. “There are more questions than answers at this point.”

While working in theory, Fostel and Geanakoplos have practical experience. Fostel, a native of Uruguay, saw economic upheaval up close and Geanakoplos is a partner in a hedge fund.

“I grew up in Latin America seeing crises,” Fostel said. “That was something that was important for me to understand. I always had in the back of my mind the possibility of using these models to explain a lot of the things that I saw growing up and I still see going on in Latin America today. And John saw many things happening in financial markets in the U.S., such as the Long-Term Capital Management crisis in 97.”

Fostel received a bachelor’s degree in economics from Universidad de la Republica, Montevideo, Uruguay, a master’s in mathematics from Brazil’s Instituto de Matematica Pura e Aplicada, in Rio de Janeiro, and a doctorate in economics from Yale University. She was an associate professor in economics at George Washington University before moving to UVA in 2015. Her research concentrates on the intersection of financial economics, international finance, economic theory and experimental finance.

— Ana Fostel, University of Virginia economics professor.

Fostel also applies her theories as a member of Uruguay’s first Fiscal Council, a three-member, technical, honorary and independent institution that assess government fiscal policy.

“Basically, trying to see that the debt is sustainable, that the fiscal policy is disciplined, responsible and sustainable, to see that the public expenditure and the debt are not blowing up,” Fostel said. “It has a lot of public exposure and I have to talk to senators and the government officials... It’s more under the spotlight, which is outside my academic comfort zone, but I am learning a lot.”

Fostel has also been a visiting scholar at the International Monetary Fund; the Federal Reserve Bank; New York University; Centre de Recerca en Economia Internacional; and the Cowles Foundation at Yale University.

Receiving the Ross Prize is especially sentimental for Fostel.

“I was deeply touched because we were both very good friends with Steve Ross,” Fostel said. “He came to UVA twice and taught in my undergrad course, and then sat for two-, three-hour question-and-answer sessions with the undergrads. He was so generous with his time and humble and with a great sense of humor. He was one of my professors at Yale and someone that I learned a lot from.”

She also sees receiving the prize as a good example for other young women who want to pursue economics.

“When I started teaching the undergrad course here at UVA, in a class of 50 people, there were basically two or three girls. Today I teach 100 students, and half of them are girls who are seeing finance as something that has a lot to do with their lives,” Fostel said. “I think that has something to do with the fact that they see a woman teaching and talking about these things that usually they think has to do with men working in Wall Street.”