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Demand Deposit Contracts, Suspension of Convertibility, and Optimal Financial Intermediation

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  • Villamil, A P

Abstract

This paper establishes that an optical contract, combining features of well-known Diamond and Dybvig (1983) and Townsend (1979,1983) models, resembles banking. The contract and the associated allocations are derived from a social planner's problem which contains the Diamond and Dybvig and Townsend models as sub-problems. The analysis accomplishes the following. It unites the liquidity preference and cost minimization literatures in a simple way; resolves the demand deposit/demand equity problem in the Diamond and Dybvig model; introduces a notion of efficient bankruptcies into the liquidity preference literature; and raises some questions about the government regulation vs. laissez faire banking debate.

Suggested Citation

  • Villamil, A P, 1991. "Demand Deposit Contracts, Suspension of Convertibility, and Optimal Financial Intermediation," Economic Theory, Springer;Society for the Advancement of Economic Theory (SAET), vol. 1(3), pages 277-288, July.
  • Handle: RePEc:spr:joecth:v:1:y:1991:i:3:p:277-88
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    Cited by:

    1. Russell Cooper & Hubert Kempf, 2016. "Deposit insurance and bank liquidation without commitment: Can we sleep well?," Economic Theory, Springer;Society for the Advancement of Economic Theory (SAET), pages 365-392.
    2. Huberto M. Ennis & Todd Keister, 2009. "Bank Runs and Institutions: The Perils of Intervention," American Economic Review, American Economic Association, pages 1588-1607.
    3. Temzelides, Theodosios, 1997. "Evolution, coordination, and banking panics," Journal of Monetary Economics, Elsevier, pages 163-183.
    4. Al-Jarhi, Mabid Ali, 2004. "Remedy For Banking Crises: What Chicago And Islam Have In Common: A Comment," Islamic Economic Studies, The Islamic Research and Training Institute (IRTI), vol. 11, pages 24-42.
    5. Gangopadhyay, Shubhashis & Singh, Gurbachan, 2000. "Avoiding bank runs in transition economies: The role of risk neutral capital," Journal of Banking & Finance, Elsevier, vol. 24(4), pages 625-642, April.
    6. Todd Keister & Huberto M. Ennis, 2007. "Commitment and Equilibrium Bank Runs," 2007 Meeting Papers 509, Society for Economic Dynamics.
    7. Huberto M. Ennis & Todd Keister, 2006. "Banking Policy without Commitment: Suspension of Convertibility Taken Seriously," 2006 Meeting Papers 464, Society for Economic Dynamics.
    8. Huberto M. Ennis & Todd Keister, 2007. "Bank runs and institutions : the perils of intervention," Working Paper 07-02, Federal Reserve Bank of Richmond.
    9. De Nicolo, Gianni, 1996. "Run-proof banking without suspension or deposit insurance," Journal of Monetary Economics, Elsevier, vol. 38(2), pages 377-390, October.

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