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The Elastic Provision of Liquidity by Private Agents

  • Saunders, Drew

I study a model of entrepreneurial investment in which investment projects are heterogeneous with respect to their exposure to an aggregate liquidity shock. A firm that is affected by the shock will mitigate its exposure by purchasing claims issued by a firm that is not. Liabilities of the unaffected firm may earn a liquidity premium due to their fungibility; and, because they are backed by productive investment, their supply is elastic to the demand. The segmentation implies that an aggregate liquidity shock has different consequences across sectors. The unaffected firm plays a role like that of a bank by supplying liquidity to other firms; this mechanism recalls the “real bills” doctrine of classical monetary theory.

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Paper provided by Purdue University, Department of Economics in its series Purdue University Economics Working Papers with number 1195.

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Length: 40 pages
Date of creation: Aug 2006
Date of revision:
Handle: RePEc:pur:prukra:1195
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Web page: http://www.krannert.purdue.edu/programs/phd
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  1. Holmström, Bengt & Tirole, Jean, 1994. "Financial Intermediation, Loanable Funds and the Real Sector," IDEI Working Papers 40, Institut d'Économie Industrielle (IDEI), Toulouse.
  2. Bruce Champ & Bruce D. Smith & Stephen D. Williamson, 1996. "Currency Elasticity and Banking Panics: Theory and Evidence," Canadian Journal of Economics, Canadian Economics Association, vol. 29(4), pages 828-64, November.
  3. 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.
  4. Bengt Holmstrom & Jean Tirole, 1998. "LAPM: A Liquidity Based Asset Pricing Model," Working papers 98-8, Massachusetts Institute of Technology (MIT), Department of Economics.
  5. Sargent, Thomas J & Wallace, Neil, 1982. "The Real-Bills Doctrine versus the Quantity Theory: A Reconsideration," Journal of Political Economy, University of Chicago Press, vol. 90(6), pages 1212-36, December.
  6. Anthony M. Santomero & John J. Seater, 1999. "Is There an Optimal Size for the Financial Sector," Center for Financial Institutions Working Papers 98-35, Wharton School Center for Financial Institutions, University of Pennsylvania.
  7. Bengt Holmström, 2001. "LAPM: A Liquidity-Based Asset Pricing Model," Journal of Finance, American Finance Association, vol. 56(5), pages 1837-1867, October.
  8. Mathias Dewatripont & Jean Tirole, 1994. "The prudential regulation of banks," ULB Institutional Repository 2013/9539, ULB -- Universite Libre de Bruxelles.
  9. Benjamin M. Friedman & Kenneth N. Kuttner, 1991. "Another Look at the Evidence on Money-Income Causality," NBER Working Papers 3856, National Bureau of Economic Research, Inc.
  10. Skander Van den Heuvel, 2006. "The Bank Capital Channel of Monetary Policy," 2006 Meeting Papers 512, Society for Economic Dynamics.
  11. Nobuhiro Kiyotaki & John Moore, 2004. "Liquidity and Asset Pricing," ESE Discussion Papers 116, Edinburgh School of Economics, University of Edinburgh.
  12. Chen, Nan-Kuang, 2001. "Bank net worth, asset prices and economic activity," Journal of Monetary Economics, Elsevier, vol. 48(2), pages 415-436, October.
  13. Gorton, Gary & Pennacchi, George, 1990. " Financial Intermediaries and Liquidity Creation," Journal of Finance, American Finance Association, vol. 45(1), pages 49-71, March.
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