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Bank Liquidity, Market Participation, and Economic Growth

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  • Mattana, Elena
  • Panetti, Ettore

Abstract

We report evidence that bank liquidity ratios (liquid assets as a percentage of total assets) decrease during the process of economic development. To reconcile this observation with (i) the increasing importance of financial markets and (ii) the increasing direct participation of individual investors in them, we build a neoclassical growth model with banks and markets. In this environment, banks engage in cross-subsidization of the impatient depositors to keep up with the competitive pressure from the markets. Moreover, as the economy grows, it becomes easier for the individuals to access the market, and the banks react to this by lowering their liquidity ratios. In a panel of 45 countries, we find evidence that such a mechanism is into place: a one-unit increase in an index of securities market liberalization leads to a drop in the bank liquidity ratio between 15 and 22 per cent.

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Bibliographic Info

Paper provided by University Library of Munich, Germany in its series MPRA Paper with number 43800.

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Date of creation: Jul 2012
Date of revision: Nov 2012
Handle: RePEc:pra:mprapa:43800

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Keywords: Financial intermediation; liquidity; market participation; economic growth;

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  1. Daron Acemoglu & Fabrizio Zilibotti, 1994. "Was Prometheus unbound by chance? Risk, diversification and growth," Economics Working Papers, Department of Economics and Business, Universitat Pompeu Fabra 98, Department of Economics and Business, Universitat Pompeu Fabra.
  2. Ngai, Liwa Rachel & Pissarides, Christopher, 2004. "Structural Change in a Multi-Sector Model of Growth," CEPR Discussion Papers, C.E.P.R. Discussion Papers 4763, C.E.P.R. Discussion Papers.
  3. Enrica Detragiache & Abdul Abiad & Thierry Tressel, 2008. "A New Database of Financial Reforms," IMF Working Papers 08/266, International Monetary Fund.
  4. Thomas, Jonathan & Worrall, Tim, 1988. "Self-enforcing Wage Contracts," Review of Economic Studies, Wiley Blackwell, Wiley Blackwell, vol. 55(4), pages 541-54, October.
  5. Asli Demirgü�-Kunt & Erik Feyen & Ross Levine, 2013. "The Evolving Importance of Banks and Securities Markets," World Bank Economic Review, World Bank Group, World Bank Group, vol. 27(3), pages 476-490.
  6. Huberto M. Ennis & Todd Keister, 2003. "Economic growth, liquidity, and bank runs," Working Paper, Federal Reserve Bank of Richmond 03-01, Federal Reserve Bank of Richmond.
  7. Robert M. Townsend & Kenichi Ueda, 2006. "Financial Deepening, Inequality, and Growth: A Model-Based Quantitative Evaluation -super-1," Review of Economic Studies, Oxford University Press, vol. 73(1), pages 251-293.
  8. Martin Lettau & Sydney C. Ludvigson & Jessica A. Wachter, 2004. "The Declining Equity Premium: What Role Does Macroeconomic Risk Play?," NBER Working Papers 10270, National Bureau of Economic Research, Inc.
  9. Gary Hansen, 2010. "Indivisible Labor and the Business Cycle," Levine's Working Paper Archive 233, David K. Levine.
  10. Daron Acemoglu & Veronica Guerrieri, 2006. "Capital Deepening and Non-Balanced Economic Growth," 2006 Meeting Papers, Society for Economic Dynamics 207, Society for Economic Dynamics.
  11. Rogerson, Richard, 1988. "Indivisible labor, lotteries and equilibrium," Journal of Monetary Economics, Elsevier, Elsevier, vol. 21(1), pages 3-16, January.
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