Market Liquidity and Creditor Runs: Feedback, Amplification, and Multiplicity
22 Pages Posted: 18 Jul 2018 Last revised: 8 Aug 2018
Date Written: August 2018
In the global games framework, this paper studies bank runs in a financial system, in which there are many banks and they share a common asset market. Our model 1) endogenizes market liquidity, 2) demonstrates two-way feedback between market liquidity and creditor runs, and 3) shows the possibility of multiple equilibria in the system: even when the precision of creditors' private signals approaches infinity, multiple equilibria (i.e., a self-fulfilling systemic crisis) can still emerge. Our model helps explain amplification and multiplicity in financial crises.
Keywords: Global games, bank runs, strategic complementarities, equilibrium multiplicity, systemic crises
JEL Classification: G01; G21; D82; D53
Suggested Citation: Suggested Citation