Precautionary Hoarding of Liquidity and Inter-Bank Markets: Evidence from the Sub-Prime Crisis

78 Pages Posted: 8 Feb 2010 Last revised: 30 Apr 2012

See all articles by Viral V. Acharya

Viral V. Acharya

New York University - Leonard N. Stern School of Business; Centre for Economic Policy Research (CEPR); National Bureau of Economic Research (NBER); New York University (NYU) - Department of Finance

Ouarda Merrouche

Bank of England

Multiple version iconThere are 4 versions of this paper

Date Written: August 1, 2010

Abstract

We study the liquidity demand of large settlement banks in the UK and its effect on the Sterling Money Markets before and during the sub-prime crisis of 2007-08. We document that liquidity holdings of the large settlement banks in the UK experienced on average a 30% increase in the period immediately following 9th August, 2007, the day when money markets froze, igniting the crisis. Following this structural break, settlement bank liquidity had a precautionary nature in that it rose on calendar days with a large amount of payment activity and more so for weaker banks. We establish that this liquidity demand by settlement banks caused overnight inter-bank rates to rise, in both secured and unsecured markets, an effect virtually absent in the pre-crisis period. This rise in borrowing rates was experienced by all settlement banks, regardless of counterparty risk, suggestive of an interest-rate contagion from weaker to stronger banks operating through the inter-bank markets.

Suggested Citation

Acharya, Viral V. and Merrouche, Ouarda, Precautionary Hoarding of Liquidity and Inter-Bank Markets: Evidence from the Sub-Prime Crisis (August 1, 2010). NYU Working Paper No. FIN-09-018. Available at SSRN: https://ssrn.com/abstract=1548812

Viral V. Acharya (Contact Author)

New York University - Leonard N. Stern School of Business ( email )

44 West 4th Street
Suite 9-160
New York, NY NY 10012
United States

HOME PAGE: http://pages.stern.nyu.edu/~sternfin/vacharya/public_html/~vacharya.htm

Centre for Economic Policy Research (CEPR)

London
United Kingdom

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

New York University (NYU) - Department of Finance

Stern School of Business
44 West 4th Street
New York, NY 10012-1126
United States

Ouarda Merrouche

Bank of England ( email )

Threadneedle Street
London, EC2R 8AH
United Kingdom

Register to save articles to
your library

Register

Paper statistics

Downloads
213
rank
106,253
Abstract Views
1,275
PlumX Metrics