Banking Panics and Policy Responses
Posted: 9 Mar 2012
Date Written: December 24, 2009
When policy makers have limited commitment power, self-fulfilling bank runs can arise as an equilibrium phenomenon. We study how such banking panics unfold in a version of the Diamond and Dybvig (1983) model. A run in this setting is necessarily partial, with only some depositors participating. In addition, a run naturally occurs in waves, with each wave of withdrawals prompting a further response from policy makers. In this way, the interplay between the actions of depositors and the responses of policy makers shapes the course of a crisis.
Keywords: Bank runs, Limited commitment, Time consistency, Suspension of convertibility
JEL Classification: G21, E61, G28
Suggested Citation: Suggested Citation