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Banks and Market Liquidity

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  • Stefan Arping

    (University of Amsterdam)

Abstract

I study a model of market-liquidity provision by levered intermediaries that, besides operating trading desks, run deposit-taking franchises. Levered intermediaries’ heightened incentive to absorb risk helps to counteract liquidity-provision frictions that, in an unlevered economy, would lead to price distortions and suppressed levels of asset origination ex ante. However, liquidity provision may also overshoot, leading to unhealthy price bubbles and causing asset origination to become excessive. Capital requirements are no panacea: They can spur risk taking and make bubbles bubblier. Ring fencing of trading activities can be, but is not necessarily, undesirable.

Suggested Citation

  • Stefan Arping, 2015. "Banks and Market Liquidity," Tinbergen Institute Discussion Papers 15-020/IV, Tinbergen Institute.
    • Handle: RePEc:tin:wpaper:20150020
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    File URL: https://papers.tinbergen.nl/15020.pdf
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    References listed on IDEAS

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    More about this item

    Keywords

    Market Liquidity; Capital Requirements; Volcker Rule; Ring Fencing;
    All these keywords.

    JEL classification:

    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • G24 - Financial Economics - - Financial Institutions and Services - - - Investment Banking; Venture Capital; Brokerage

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