Why Does Overnight Liquidity Cost More than Intraday Liquidity?
Iowa State University - Department of Economics
University of Missouri at Columbia - Department of Economics
Federal Reserve Bank of New York - Research and Statistics
FRB of New York Staff Report No. 281
In this paper, we argue that the observed difference in the cost of intraday and overnight liquidity is part of an optimal payments system design. In our environment, the interest charged on overnight liquidity affects output, while the cost of intraday liquidity only affects the distribution of resources between money holders and non-money holders. The low cost of intraday liquidity follows from the Friedman rule, but with respect to overnight liquidity, it is optimal to deviate from the Friedman rule. The cost differential simultaneously reduces the incentive to overuse money and encourages risk sharing.
Number of Pages in PDF File: 26
Keywords: Friedman rule, overnight liquidity, intraday liquidity
JEL Classification: E31, E51, E58working papers series
Date posted: May 1, 2007
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