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Are banks passive liquidity backstops? deposit rates and flows during the 2007-2009 crisis

  • Viral V. Acharya
  • Nada Mora

Can banks maintain their advantage as liquidity providers when they are heavily exposed to a financial crisis? The standard argument - that banks can - hinges on deposit inflows that are seeking a safe haven and provide banks with a natural hedge to fund drawn credit lines and other commitments. We shed new light on this issue by studying the behavior of bank deposit rates and inflows during the 2007-09 crisis. Our results indicate that the role of the banking system as a stabilizing liquidity insurer is not one of the passive recipient, but of an active seeker, of deposits. We find that banks facing a funding squeeze sought to attract deposits by offering higher rates. Banks offering higher rates were also those most exposed to liquidity demand shocks (as measured by their unused commitments, wholesale funding dependence, and limited liquid assets), as well as with fundamentally weak balance-sheets (as measured by their non-performing loans or by subsequent failure). Such rate increases have a competitive effect in that they lead other banks to offer higher rates as well. Overall, the results present a nuanced view of deposit rates and flows to banks in a crisis, one that reflects banks not just as safety havens but also as stressed entities scrambling for deposits.

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Paper provided by Federal Reserve Bank of Kansas City in its series Research Working Paper with number RWP 11-06.

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Date of creation: 2011
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Handle: RePEc:fip:fedkrw:rwp11-06
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  2. Marcin Kacperczyk & Philipp Schnabl, 2011. "Implicit Guarantees and Risk Taking: Evidence from Money Market Funds," NBER Working Papers 17321, National Bureau of Economic Research, Inc.
  3. Gara Afonso & Anna Kovner & Antoinette Schoar, 2011. "Stressed, Not Frozen: The Federal Funds Market in the Financial Crisis," Journal of Finance, American Finance Association, vol. 66(4), pages 1109-1139, 08.
  4. Demirguc-Kunt, Asli & Huizinga, Harry, 2004. "Market discipline and deposit insurance," Journal of Monetary Economics, Elsevier, vol. 51(2), pages 375-399, March.
  5. Viral V. Acharya & Heitor Almeida & Murillo Campello, 2010. "Aggregate Risk and the Choice between Cash and Lines of Credit," NBER Working Papers 16122, National Bureau of Economic Research, Inc.
  6. Rajashri Chakrabarti & Donghoon Lee & Wilbert van der Klaauw & Basit Zafar, 2013. "Household Debt and Saving during the 2007 Recession," NBER Chapters, in: Measuring Wealth and Financial Intermediation and Their Links to the Real Economy National Bureau of Economic Research, Inc.
  7. Judit Montoriol-Garriga & Evan Sekeris, 2009. "A question of liquidity: the great banking run of 2008?," Risk and Policy Analysis Unit Working Paper QAU09-4, Federal Reserve Bank of Boston.
  8. Park, Sangkyun & Peristiani, Stavros, 1998. "Market Discipline by Thrift Depositors," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 30(3), pages 347-64, August.
  9. Acharya, Viral V & Schnabl, Philipp & Suarez, Gustavo, 2012. "Securitization Without Risk Transfer," CEPR Discussion Papers 8769, C.E.P.R. Discussion Papers.
  10. Acharya, Viral V & Skeie, David, 2011. "A Model of Liquidity Hoarding and Term Premia in Inter-Bank Markets," CEPR Discussion Papers 8705, C.E.P.R. Discussion Papers.
  11. Viral V. Acharya & João A. C. Santos & Tanju Yorulmazer, 2010. "Systemic risk and deposit insurance premiums," Economic Policy Review, Federal Reserve Bank of New York, issue Aug, pages 89-99.
  12. Adam Ashcraft & James McAndrews & David Skeie, 2009. "Precautionary reserves and the interbank market," Staff Reports 370, Federal Reserve Bank of New York.
  13. Hannan, Timothy H & Hanweck, Gerald A, 1988. "Bank Insolvency Risk and the Market for Large Certificates of Deposit," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 20(2), pages 203-11, May.
  14. Flannery, Mark J & Sorescu, Sorin M, 1996. " Evidence of Bank Market Discipline in Subordinated Debenture Yields: 1983-1991," Journal of Finance, American Finance Association, vol. 51(4), pages 1347-77, September.
  15. Adam B. Ashcraft, 2006. "Does the market discipline banks? New evidence from the regulatory capital mix," Staff Reports 244, Federal Reserve Bank of New York.
  16. Gara Afonso & Anna Kovner & Antoinette Schoar, 2010. "Stressed not Frozen: The Fed Funds Market in the Financial Crisis," NBER Working Papers 15806, National Bureau of Economic Research, Inc.
  17. Meghan Busse, 2002. "Firm Financial Condition and Airline Price Wars," RAND Journal of Economics, The RAND Corporation, vol. 33(2), pages 298-318, Summer.
  18. Nada Mora, 2010. "Can banks provide liquidity in a financial crisis?," Economic Review, Federal Reserve Bank of Kansas City, issue Q III, pages 31-67.
  19. Rajkamal Iyer & Manju Puri, 2008. "Understanding Bank Runs: The Importance of Depositor-Bank Relationships and Networks," NBER Working Papers 14280, National Bureau of Economic Research, Inc.
  20. Marcin Kacperczyk & Philipp Schnabl, 2010. "When Safe Proved Risky: Commercial Paper during the Financial Crisis of 2007-2009," Journal of Economic Perspectives, American Economic Association, vol. 24(1), pages 29-50, Winter.
  21. Viral V. Acharya, 2010. "Measuring systemic risk," Proceedings 1140, Federal Reserve Bank of Chicago.
  22. John C. Driscoll & Ruth A. Judson, 2013. "Sticky deposit rates," Finance and Economics Discussion Series 2013-80, Board of Governors of the Federal Reserve System (U.S.).
  23. Flannery, Mark J, 1998. "Using Market Information in Prudential Bank Supervision: A Review of the U.S. Empirical Evidence," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 30(3), pages 273-305, August.
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