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Outside Liquidity, Rollover Risk, and Government Bonds

Author

Listed:
  • Stephan Luck

    (Max Planck Institute for Research on Collective Goods, Bonn)

  • Paul Schempp

    (Max Planck Institute for Research on Collective Goods, Bonn)

Abstract

This paper discusses whether financial intermediaries can optimally provide liquidity, or whether the government has a role in creating liquidity by supplying government securities. We discuss a model in which intermediaries optimally manage liquidity with outside rather than inside liquidity: instead of holding liquid real assets that can be used at will, banks sell claims on long-term projects to investors. While increasing efficiency, liquidity management with private outside liquidity is associated with a rollover risk. This rollover risk either keeps intermediaries from providing liquidity optimally, or it makes the economy inherently fragile. In contrast to privately produced claims, government bonds are not associated with coordination problems unless there is the prospect that the government may default. Therefore, efficiency and stability can be enhanced if liquidity management relies on public outside liquidity.

Suggested Citation

  • Stephan Luck & Paul Schempp, 2014. "Outside Liquidity, Rollover Risk, and Government Bonds," Discussion Paper Series of the Max Planck Institute for Behavioral Economics 2014_14, Max Planck Institute for Behavioral Economics.
    • Handle: RePEc:mpg:wpaper:2014_14
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    References listed on IDEAS

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    Cited by:

    1. Stephan Luck & Paul Schempp, 2014. "Sovereign Defaults, Bank Runs, and Contagion," Discussion Paper Series of the Max Planck Institute for Behavioral Economics 2014_15, Max Planck Institute for Behavioral Economics.

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    Keywords

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    JEL classification:

    • 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
    • H81 - Public Economics - - Miscellaneous Issues - - - Governmental Loans; Loan Guarantees; Credits; Grants; Bailouts
    • H63 - Public Economics - - National Budget, Deficit, and Debt - - - Debt; Debt Management; Sovereign Debt

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