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Banking as the Provision of Liquidity

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Author Info
Freeman, Scott

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Abstract

This article represents a model economy in which demand deposits represent the optimal financial intermediation. Because these demand deposits are backed in part by an illiquid asset, the in termediary ("bank") is subject to panics in which each agent ration ally decides to withdraw his deposits, making all worse off. Banks ca n prevent panics only through a distortion of the optimal contract. T he government can prevent panics without this distortion by guarantee ing the return from deposits. The moral hazard introduced by this dep osit insurance induces the government to regulate the intermediary's portfolio and returns. Copyright 1988 by the University of Chicago.

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Publisher Info
Article provided by University of Chicago Press in its journal Journal of Business.

Volume (Year): 61 (1988)
Issue (Month): 1 (January)
Pages: 45-64
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Handle: RePEc:ucp:jnlbus:v:61:y:1988:i:1:p:45-64

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  1. Ting-Fang Chiang & E-Ching Wu & Min-Teh Yu, 2007. "Premium setting and bank behavior in a voluntary deposit insurance scheme," Review of Quantitative Finance and Accounting, Springer, vol. 29(2), pages 205-222, August. [Downloadable!] (restricted)
  2. Antoine Martin, 2001. "Liquidity provision vs. deposit insurance : preventing bank panics without moral hazard?," Research Working Paper RWP 01-05, Federal Reserve Bank of Kansas City. [Downloadable!]
    Other versions:
  3. Russell Cooper & Thomas W. Ross, 1991. "Bank Runs: Liquidity and Incentives," NBER Working Papers 3921, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
    Other versions:
  4. Antoine Martin, 2008. "Reconciling Bagehot with the Fed's response to September 11," Staff Reports 217, Federal Reserve Bank of New York. [Downloadable!]
  5. Russell Cooper & Dean Corbae, 1997. "Financial Fragility and the Great Depression," NBER Working Papers 6094, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
    Other versions:
  6. Marie Hoerova, 2007. "Run-prone banking and asset markets," Working Paper Series 845, European Central Bank. [Downloadable!]
  7. Gerald Caprio & Michael Dooley & Danny Leipziger & Carl Walsh, 1996. "The lender of last resort function under a currency board: The case of Argentina," Open Economies Review, Springer, vol. 7(1), pages 625-650, March. [Downloadable!] (restricted)
    Other versions:
  8. Matias Fontenla & Fidel Gonzalez, 2007. "Self-fulfilling and Fundamental Banking Crises: A Multinomial Logit Approach," Economics Bulletin, Economics Bulletin, vol. 6(17), pages 1-11. [Downloadable!]
  9. Huberto M. Ennis & Todd Keister, 2003. "Economic growth, liquidity, and bank runs," Working Paper 03-01, Federal Reserve Bank of Richmond. [Downloadable!]
    Other versions:
  10. Russell Cooper & Joao Ejarque, 1995. "Financial Intermediation and The Great Depression: A Multiple Equilibrium Interpretation," NBER Working Papers 5130, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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