Coordination Failures, Bank Runs and Asset Prices

34 Pages Posted: 3 Oct 2018 Last revised: 21 Feb 2019

See all articles by Monika Bucher

Monika Bucher

Deutsche Bundesbank

Diemo Dietrich

Newcastle University Business School

Mich Tvede

University of East Anglia

Date Written: 2018

Abstract

We study efficiency properties of competitive economies in which banks provide liquidity insurance and interact on secondary asset markets. While all banks are subject to extrinsic risk, a bank's portfolio choice determines whether it is prone to a bank run in one of the extrinsic states. Asset prices determine the value of bank assets and thus how to structure run-proof portfolios. Except for very large sunspot probabilities, equilibria with trivial sunspots exist, where asset prices are state-dependent, bank runs do not occur and the efficient allocation obtains. Interbank asset markets are also a new source of multiplicity of equilibrium. For low sunspot probabilities, there are equilibria in which all banks are run-prone. For high sunspot probabilities, there is no equilibrium with run-prone banks but consumption can be indeterminate. If the sunspot probability is neither high nor low, equilibria may exist in which some banks are run-prone and others are run-proof.

Keywords: Banking, Interbank Asset Markets, Liquidity Insurance, Extrinsic Risk, Financial Stability

JEL Classification: G01, G21, D53

Suggested Citation

Bucher, Monika and Dietrich, Diemo and Tvede, Mich, Coordination Failures, Bank Runs and Asset Prices (2018). Deutsche Bundesbank Discussion Paper No. 39/2018, Available at SSRN: https://ssrn.com/abstract=3259738

Monika Bucher (Contact Author)

Deutsche Bundesbank ( email )

Wilhelm-Epstein-Str. 14
Frankfurt/Main, 60431
Germany

Diemo Dietrich

Newcastle University Business School ( email )

5 Barrack Road
Newcastle-upon-Tyne NE1 7RU, NE1 4SE
United Kingdom

HOME PAGE: http://www.ncl.ac.uk/business-school/staff/profile/diemodietrich.html

Mich Tvede

University of East Anglia ( email )

Norwich Research Park
Norwich, Norfolk NR4 7TJ
United Kingdom

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