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Stressed, not frozen: the Federal Funds market in the financial crisis

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Abstract

We examine the importance of liquidity hoarding and counterparty risk in the U.S. overnight interbank market during the financial crisis of 2008. Our findings suggest that counterparty risk plays a larger role than does liquidity hoarding: the day after Lehman Brothers? bankruptcy, loan terms become more sensitive to borrower characteristics. In particular, poorly performing large banks see an increase in spreads of 25 basis points, but are borrowing 1 percent less, on average. Worse performing banks do not hoard liquidity. While the interbank market does not freeze entirely, it does not seem to expand to meet latent demand.

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  • Gara M. Afonso & Anna Kovner & Antoinette Schoar, 2010. "Stressed, not frozen: the Federal Funds market in the financial crisis," Staff Reports 437, Federal Reserve Bank of New York.
    • Handle: RePEc:fip:fednsr:437
    Note: For a published version of this report, see Gara Afonso, Anna Kovner, and Antoinette Schoar, "Stressed, Not Frozen: The Federal Funds Market in the Financial Crisis," Journal of Finance 66, no. 4 (August 2011): 1109-39.
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    Keywords

    interbank lending; financial crisis; hoarding; fed funds; liquidity;
    All these keywords.

    JEL classification:

    • D40 - Microeconomics - - Market Structure, Pricing, and Design - - - General
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • G01 - Financial Economics - - General - - - Financial Crises
    • E40 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - General

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