A Dynamic Model of Systemic Bank Runs

42 Pages Posted: 8 May 2019 Last revised: 9 May 2019

See all articles by Xuewen Liu

Xuewen Liu

University of Hong Kong (HKU) - Finance Area, Faculty of Business and Economics

Date Written: March 1, 2019

Abstract

This paper develops a tractable dynamic model to study bank runs in a financial system, featuring the linkage between bank runs and asset market prices. The model speaks to the evolution of a systemic crisis. In our model economy, there are many banks and they share a common asset market. The interim liquidation value of a bank is endogenous and depends on its asset fundamentals, on the status of other banks and hence the aggregate fire sales in the system, and on the endogenous path-dependent market liquidity condition. We analytically characterize the dynamics of the interplay between market liquidity and bank runs. Our model shows runs-illiquidity traps with two steady-state equilibria and a crisis process consisting of an initial gradual decline followed by a sudden sharp crash in the transitional dynamics. Our theory explains empirical facts and gives new policy implications.

JEL Classification: G01; G20; E50; D82

Suggested Citation

Liu, Xuewen, A Dynamic Model of Systemic Bank Runs (March 1, 2019). Available at SSRN: https://ssrn.com/abstract=3375547 or http://dx.doi.org/10.2139/ssrn.3375547

Xuewen Liu (Contact Author)

University of Hong Kong (HKU) - Finance Area, Faculty of Business and Economics ( email )

Pokfulam Road
Hong Kong
China

HOME PAGE: http://web.hku.hk/~xuewenl/

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