The Bank Liquidity Channel of Financial (In)Stability

78 Pages Posted: 27 Sep 2021 Last revised: 4 Feb 2022

See all articles by Joshua Bosshardt

Joshua Bosshardt

Federal Housing Finance Agency

Farzad Saidi

Boston University - Questrom School of Business; Centre for Economic Policy Research (CEPR)

Ali Kakhbod

University of California, Berkeley

Date Written: August 2021

Abstract

We examine the system-wide effects of liquidity regulation on banks' balance sheets. In the general equilibrium model, banks have to hold liquid assets, and choose among illiquid assets varying in the extent to which they are difficult to value before maturity, e.g., structured securities. By improving the liquidity of interbank markets, tighter liquidity requirements induce banks to invest in such complex assets. We evaluate the welfare properties of combining liquidity regulation with other financial-stability policies, and show that it can complement ex-ante policies, such as asset-specific taxes, whereas it can undermine the benefits of ex-post interventions, such as quantitative easing.

Keywords: Financial Stability, Interbank Markets, liquidity regulation, Quantitative easing, Securitization

JEL Classification: E44, G01, G21, G28

Suggested Citation

Bosshardt, Joshua and Saidi, Farzad and Kakhbod, Ali, The Bank Liquidity Channel of Financial (In)Stability (August 2021). CEPR Discussion Paper No. DP16438, Available at SSRN: https://ssrn.com/abstract=3928735

Joshua Bosshardt (Contact Author)

Federal Housing Finance Agency ( email )

400 7th Street SW
Washington, DC 20552
United States

Farzad Saidi

Boston University - Questrom School of Business ( email )

595 Commonwealth Avenue
Boston, MA MA 02215
United States

Centre for Economic Policy Research (CEPR) ( email )

London
United Kingdom

Ali Kakhbod

University of California, Berkeley ( email )

Haas School of Business
2220 Piedmont Ave
Berkeley, CA 94720
United States

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