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Banking Policy without Commitment: Suspension of Convertibility Taken Seriously

Author

Listed:
  • Huberto M. Ennis

    () (Research Department Federal Reserve Bank of Richmond)

  • Todd Keister

Abstract

We study banking policy credibility in a variant of the Diamond and Dybvig (JPE, 1983) model. By committing to temporarily close banks during a run, suspending the convertibility of deposits into currency, the banking authority can eliminate the possibility of a bank run as an equilibrium outcome. Without commitment, however, if a run were to actually occur it may not be optimal for the authority to keep its promise to suspend convertibility. In other words, the threat of suspension may not be credible. We derive conditions under which a credible suspension scheme can be used to rule out bank runs and conditions under which it cannot. In the latter case, bank runs can occur even when there is no uncertainty about aggregate liquidity demand. We relate the analysis to events in Argentina in 2001, when a system-wide suspension of convertibility was declared but only partially enforced

Suggested Citation

  • Huberto M. Ennis & Todd Keister, 2006. "Banking Policy without Commitment: Suspension of Convertibility Taken Seriously," 2006 Meeting Papers 464, Society for Economic Dynamics.
  • Handle: RePEc:red:sed006:464
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    File URL: http://repec.org/sed2006/up.9434.1139948600.pdf
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    References listed on IDEAS

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    More about this item

    Keywords

    Optimal Policy; Credibility; Time Consistency; Bank Runs;

    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
    • L5 - Industrial Organization - - Regulation and Industrial Policy

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