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Interbank market and central bank policy

Author

Listed:
  • Jung-Hyun Ahn
  • Vincent Bignon
  • Régis Breton
  • Antoine Martin

Abstract

We develop a model in which financial intermediaries hold liquidity to protect themselves from shocks. Depending on parameter values, banks may choose to hold too much or too little liquidity on aggregate compared with the socially optimal amount. The model endogenously generates a situation of cash hoarding, leading to the associated market freezes or underinsurance against liquidity choice. The model therefore provides a unified framework for thinking, on the one hand, about policy measures that can reduce hoarding of cash by banks and, on the other hand, about liquidity requirements of the type imposed by the new Basel III regulation. In our model, banks hold tradable and nontradable assets. Nontradable assets are subject to a liquidity shock, and an injection of cash is required for the asset to mature if it is hit by the shock. Banks have access to an interbank market on which they obtain cash against their tradable securities. The quantity of cash obtained on this market is determined endogenously by the market value of the tradable assets and is subject to cash-in-the-market pricing. Banks holding an asset that turns out to be bad may be constrained on the interbank market and therefore may have to interrupt their nontradable project.

Suggested Citation

  • Jung-Hyun Ahn & Vincent Bignon & Régis Breton & Antoine Martin, 2016. "Interbank market and central bank policy," Staff Reports 763, Federal Reserve Bank of New York.
  • Handle: RePEc:fip:fednsr:763
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    References listed on IDEAS

    as
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    2. Xavier Freixas & Antoine Martin & David Skeie, 2011. "Bank Liquidity, Interbank Markets, and Monetary Policy," Review of Financial Studies, Society for Financial Studies, vol. 24(8), pages 2656-2692.
    3. Patrick Bolton & Tano Santos & Jose A. Scheinkman, 2011. "Outside and Inside Liquidity," The Quarterly Journal of Economics, Oxford University Press, vol. 126(1), pages 259-321.
    4. Allen, Franklin & Carletti, Elena & Gale, Douglas, 2009. "Interbank market liquidity and central bank intervention," Journal of Monetary Economics, Elsevier, vol. 56(5), pages 639-652, July.
    5. Tamura, Kentaro & Tabakis, Evangelos, 2013. "The use of credit claims as collateral for Eurosystem credit operations," Occasional Paper Series 148, European Central Bank.
    6. Bengt Holmstrom & Jean Tirole, 1998. "Private and Public Supply of Liquidity," Journal of Political Economy, University of Chicago Press, vol. 106(1), pages 1-40, February.
    7. Franklin Allen & Douglas Gale, 2005. "From Cash-in-the-Market Pricing to Financial Fragility," Journal of the European Economic Association, MIT Press, vol. 3(2-3), pages 535-546, 04/05.
    8. Viral V. Acharya & Ouarda Merrouche, 2013. "Precautionary Hoarding of Liquidity and Interbank Markets: Evidence from the Subprime Crisis," Review of Finance, European Finance Association, vol. 17(1), pages 107-160.
    9. Adam Ashcraft & James Mcandrews & David Skeie, 2011. "Precautionary Reserves and the Interbank Market," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 43(s2), pages 311-348, October.
    10. Viral V. Acharya & Denis Gromb & Tanju Yorulmazer, 2012. "Imperfect Competition in the Interbank Market for Liquidity as a Rationale for Central Banking," American Economic Journal: Macroeconomics, American Economic Association, vol. 4(2), pages 184-217, April.
    11. William Walker Swanson, 1908. "The Crisis of 1860 and the First Issue of Clearing-House Certificates: II," Journal of Political Economy, University of Chicago Press, vol. 16, pages 212-212.
    12. Gorton, Gary, 1985. "Clearinghouses and the Origin of Central Banking in the United States," The Journal of Economic History, Cambridge University Press, vol. 45(2), pages 277-283, June.
    13. Birgit Sauerzopf, 2007. "Credit Claims as Eligible Collateral for Eurosystem Credit Operations," Monetary Policy & the Economy, Oesterreichische Nationalbank (Austrian Central Bank), issue 2, pages 80-92.
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    Citations

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    Cited by:

    1. Ranaldo, Angelo & Wrampelmeyer, Jan, 2016. "Unsecured and Secured Funding," Working Papers on Finance 1616, University of St. Gallen, School of Finance.
    2. repec:prs:ecsecs:estat_0336-1454_2017_num_494_1_10784 is not listed on IDEAS
    3. J. Barthélemy & V. Bignon & B. Nguyen, 2017. "Illiquid Collateral and Bank Lending during the European Sovereign Debt Crisis," Working papers 631, Banque de France.

    More about this item

    Keywords

    money market; liquidity regulation; nonconventional monetary policy; cash-in-the-market pricing;

    JEL classification:

    • E58 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Central Banks and Their Policies
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation

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