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Liquidity Flows and Fragility of Business Enterprises

  • Wouter den Haan
  • Garey Ramey
  • Joel Watson

This paper considers the efficiency of financial intermediation and the propagation of business cycle shocks in a model of long-term relationships between entrepreneurs and lenders lenders may be constrained in their short-run access to liquidity. When liquidity is low, relationships are subject to breakups that lead to loss of joint surplus. Liquidity outflows cause damage to financial structure by breaking up relationships, and damage persists due to frictions in the formation of new relationships. Feedbacks between aggregate investment and the structure of intermediation greatly magnify the effects of shocks. For large shocks, financial collapse may become inescapable in the absence of external intervention.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 7057.

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Date of creation: Mar 1999
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Publication status: published as Den Haan, Wouter J., Garey Ramey and Joel Watson. "Liquidity Flows And Fragility Of Business Enterprises," Journal of Monetary Economics, 2003, v50(6,Sep), 1215-1241.
Handle: RePEc:nbr:nberwo:7057
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