The Dark Side of Bank Wholesale Funding

41 Pages Posted: 20 Jul 2010  

Rocco Huang

Michigan State University - Department of Finance; Wharton Financial Institutions Center

Lev Ratnovski

International Monetary Fund

Multiple version iconThere are 2 versions of this paper

Date Written: June 28, 2010

Abstract

Banks increasingly use short-term wholesale funds to supplement traditional retail deposits. Existing literature mainly points to the "bright side" of wholesale funding: sophisticated financiers can monitor banks, disciplining bad but refinancing good ones. This paper models a "dark side" of wholesale funding. In an environment with a costless but noisy public signal on bank project quality, short-term wholesale financiers have lower incentives to conduct costly monitoring, and instead may withdraw based on negative public signals, triggering inefficient liquidations. Comparative statics suggest that such distortions of incentives are smaller when public signals are less relevant and project liquidation costs are higher, e.g., when banks hold mostly relationship-based small business loans.

Keywords: Financial Crises, Liquidity Risk, Wholesale Funding, Regulation

JEL Classification: G21, G28, G33

Suggested Citation

Huang, Rocco and Ratnovski, Lev, The Dark Side of Bank Wholesale Funding (June 28, 2010). ECB Working Paper No. 1223; FRB of Philadelphia Working Paper No. 09-3; European Banking Center Discussion Paper No. 2009-18S; CentER Discussion Paper Series No. 2009-59S. Available at SSRN: https://ssrn.com/abstract=1631686

Rocco Huang (Contact Author)

Michigan State University - Department of Finance ( email )

315 Eppley Center
East Lansing, MI 48824-1122
United States

HOME PAGE: http://www.roccohuang.com

Wharton Financial Institutions Center

2306 Steinberg Hall-Dietrich Hall
3620 Locust Walk
Philadelphia, PA 19104
United States

Lev Ratnovski

International Monetary Fund ( email )

700 19th Street, N.W.
Washington, DC 20431
United States
+1 202 623 8213 (Phone)

HOME PAGE: http://ratnovski.googlepages.com

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