Managing Bank Liquidity Risk: How Deposit-Loan Synergies Vary with Market Conditions
FDIC CRF Working Paper 2006-03
35 Pages Posted: 17 Feb 2006
Date Written: December 2005
Unused loan commitments expose banks to systematic liquidity risk, but this exposure can be reduced by combining loan commitments with transactions deposits. We show that bank equity volatility increases with unused loan commitments, but this increase is reduced for banks with high levels of transaction deposits. This deposit-lending synergy becomes even more powerful during periods of tight liquidity, when nervous investors move funds into their banks. Thus, the simultaneous taking of deposits and lending may be thought of as a liquidity hedge.
Keywords: Liquidity, banking, financial crisis
JEL Classification: G18, G21
Suggested Citation: Suggested Citation