IDEAS home Printed from https://ideas.repec.org/p/rut/rutres/201601.html
   My bibliography  Save this paper

Asset Returns and Financial Fragility

Author

Listed:
  • Yang Li

    () (Department of Economics, Rutgers University)

Abstract

What configuration of asset returns will make the banking system most susceptible to a self-fulfilling run? I study this question in a version of the model of Diamond and Dybvig (1983) with limited commitment and a non-trivial portfolio choice. I show that the relationship between the returns on banks’ assets and financial fragility is often non-monotone: a higher return may make banks either more or less susceptible to a run by depositors. The same is true for changes in the liquidation cost and the term premium. I derive precise conditions under which changes in each of these returns increase or decrease financial fragility.

Suggested Citation

  • Yang Li, 2016. "Asset Returns and Financial Fragility," Departmental Working Papers 201601, Rutgers University, Department of Economics.
  • Handle: RePEc:rut:rutres:201601
    as

    Download full text from publisher

    File URL: http://www.sas.rutgers.edu/virtual/snde/wp/2016-01.pdf
    Download Restriction: no

    Other versions of this item:

    References listed on IDEAS

    as
    1. Green, Edward J. & Lin, Ping, 2003. "Implementing efficient allocations in a model of financial intermediation," Journal of Economic Theory, Elsevier, vol. 109(1), pages 1-23, March.
    2. Borio, Claudio & Zhu, Haibin, 2012. "Capital regulation, risk-taking and monetary policy: A missing link in the transmission mechanism?," Journal of Financial Stability, Elsevier, vol. 8(4), pages 236-251.
    3. Ennis, Huberto M. & Keister, Todd, 2006. "Bank runs and investment decisions revisited," Journal of Monetary Economics, Elsevier, vol. 53(2), pages 217-232, March.
    4. Huberto M. Ennis & Todd Keister, 2009. "Bank Runs and Institutions: The Perils of Intervention," American Economic Review, American Economic Association, vol. 99(4), pages 1588-1607, September.
    5. Douglas W. Diamond & Philip H. Dybvig, 2000. "Bank runs, deposit insurance, and liquidity," Quarterly Review, Federal Reserve Bank of Minneapolis, issue Win, pages 14-23.
    6. Andolfatto, David & Nosal, Ed & Sultanum, Bruno, 2017. "Preventing bank runs," Theoretical Economics, Econometric Society, vol. 12(3), September.
    7. Leonardo Gambacorta, 2009. "Monetary policy and the risk-taking channel," BIS Quarterly Review, Bank for International Settlements, December.
    8. Woodford, Michael, 2016. "Quantitative Easing and Financial Stability," CEPR Discussion Papers 11287, C.E.P.R. Discussion Papers.
    9. Acharya, Viral & Plantin, Guillaume, 2017. "Monetary easing and financial instability," LSE Research Online Documents on Economics 70715, London School of Economics and Political Science, LSE Library.
    10. Ennis, Huberto M. & Keister, Todd, 2010. "Banking panics and policy responses," Journal of Monetary Economics, Elsevier, vol. 57(4), pages 404-419, May.
    11. Adrian, Tobias & Liang, J. Nellie, 2014. "Monetary policy, financial conditions, and financial stability," Staff Reports 690, Federal Reserve Bank of New York, revised 01 Dec 2016.
    12. Angela Maddaloni & Jose-Luis Peydro, 2011. "Bank Risk-taking, Securitization, Supervision, and Low Interest Rates: Evidence from the Euro-area and the U.S. Lending Standards," Review of Financial Studies, Society for Financial Studies, vol. 24(6), pages 2121-2165.
    13. Adrian, Tobias & Song Shin, Hyun, 2010. "Financial Intermediaries and Monetary Economics," Handbook of Monetary Economics,in: Benjamin M. Friedman & Michael Woodford (ed.), Handbook of Monetary Economics, edition 1, volume 3, chapter 12, pages 601-650 Elsevier.
    14. Todd Keister, 2016. "Bailouts and Financial Fragility," Review of Economic Studies, Oxford University Press, vol. 83(2), pages 704-736.
    15. Hanson, Samuel G. & Stein, Jeremy C., 2015. "Monetary policy and long-term real rates," Journal of Financial Economics, Elsevier, vol. 115(3), pages 429-448.
    16. Michael Woodford, 2016. "Quantitative easing and financial stability," Journal Economía Chilena (The Chilean Economy), Central Bank of Chile, vol. 19(2), pages 04-77, August.
    17. James Peck & Karl Shell, 2003. "Bank Portfolio Restrictions and Equilibrium Bank Runs," Levine's Bibliography 666156000000000077, UCLA Department of Economics.
    18. James Peck & Karl Shell, 2003. "Equilibrium Bank Runs," Journal of Political Economy, University of Chicago Press, vol. 111(1), pages 103-123, February.
    19. Neil Wallace, 1988. "Another attempt to explain an illiquid banking system: the Diamond and Dybvig model with sequential service taken seriously," Quarterly Review, Federal Reserve Bank of Minneapolis, issue Fall, pages 3-16.
    20. Jefferson Bertolai & Ricardo Cavalcanti & Paulo Monteiro, 2014. "Run theorems for low returns and large banks," Economic Theory, Springer;Society for the Advancement of Economic Theory (SAET), vol. 57(2), pages 223-252, October.
    21. Michael Woodford, 2016. "Quantitative Easing and Financial Stability," NBER Working Papers 22285, National Bureau of Economic Research, Inc.
    22. Sultanum, Bruno, 2014. "Optimal Diamond–Dybvig mechanism in large economies with aggregate uncertainty," Journal of Economic Dynamics and Control, Elsevier, vol. 40(C), pages 95-102.
    23. repec:chb:bcchsb:v24c06pp151-233 is not listed on IDEAS
    24. Neil Wallace, 1990. "A banking model in which partial suspension is best," Quarterly Review, Federal Reserve Bank of Minneapolis, issue Fall, pages 11-23.
    25. Cooper, Russell & Ross, Thomas W., 1998. "Bank runs: Liquidity costs and investment distortions," Journal of Monetary Economics, Elsevier, vol. 41(1), pages 27-38, February.
    Full references (including those not matched with items on IDEAS)

    More about this item

    Keywords

    Financial fragility; Bank runs; Excess liquidity;

    JEL classification:

    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages

    NEP fields

    This paper has been announced in the following NEP Reports:

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:rut:rutres:201601. See general information about how to correct material in RePEc.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (). General contact details of provider: http://edirc.repec.org/data/derutus.html .

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service hosted by the Research Division of the Federal Reserve Bank of St. Louis . RePEc uses bibliographic data supplied by the respective publishers.