Economic Growth, Liquidity, and Bank Runs
27 Pages Posted: 3 Dec 2012 Last revised: 15 Feb 2013
Date Written: January 1, 2003
We construct an endogenous growth model in which bank runs occur with positive probability in equilibrium. In this setting, a bank run has a permanent effect on the levels of the capital stock and of output. In addition, the possibility of a run changes the portfolio choices of depositors and of banks, and thereby affects the long-run growth rate. These facts imply that both the occurrence of a run and the mere possibility of runs in a given period have a large impact on all future periods. A bank run in our model is triggered by sunspots, and we consider two different equilibrium selection rules. In the first, a run occurs with a fixed, exogenous probability, while in the second the probability of a run is influenced by banks' portfolio choices. We show that when the choices of an individual bank affect the probability of a run on that bank, the economy both grows faster and experiences fewer runs.
Keywords: banking panics, endogenous growth, equilibrium selection
JEL Classification: E42, G21, O42
Suggested Citation: Suggested Citation