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Self-fulfilling runs and endogenous liquidity creation

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  • Rivero Leiva, David
  • Rodríguez Mendizábal, Hugo

Abstract

This paper incorporates endogenous money creation into the liquidity mismatch problem of Diamond and Dybvig (1983). We characterize a nominal economy where demandable deposits are created through lending. Depositors use sight deposits to buy consumption goods and the banks manage reserves to clear payments and to offset liquidity risk. We show that deposit contracts are suboptimal in terms of liquidity risk-sharing. We also observe that self-fulfilling runs depend on the refinancing rate of the central bank. Our analysis emphasizes the importance of effective lender of last resort policies to prevent expectational banking panics.

Suggested Citation

  • Rivero Leiva, David & Rodríguez Mendizábal, Hugo, 2019. "Self-fulfilling runs and endogenous liquidity creation," Journal of Financial Stability, Elsevier, vol. 45(C).
    • Handle: RePEc:eee:finsta:v:45:y:2019:i:c:s1572308919306552
    DOI: 10.1016/j.jfs.2019.100704
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    Cited by:

    1. Schilling, Linda & Fernández-Villaverde, Jesús & Uhlig, Harald, 2024. "Central bank digital currency: When price and bank stability collide," Journal of Monetary Economics, Elsevier, vol. 145(C).
    2. Kladakis, George & Chen, Lei & Bellos, Sotirios K., 2022. "Bank regulation, supervision and liquidity creation," Journal of International Money and Finance, Elsevier, vol. 124(C).
    3. Kladakis, George & Chen, Lei & Bellos, Sotirios K., 2023. "Ethical bank disclosures and liquidity creation," Journal of International Financial Markets, Institutions and Money, Elsevier, vol. 84(C).
    4. Kladakis, George & Chen, Lei & Bellos, Sotirios K., 2022. "Multiple credit ratings and liquidity creation," Finance Research Letters, Elsevier, vol. 46(PA).
    5. Pana, Elisabeta, 2023. "A bibliometric review of liquidity creation," Research in International Business and Finance, Elsevier, vol. 64(C).
    6. Tercero-Lucas, David, 2023. "Central bank digital currencies and financial stability in a modern monetary system," Journal of Financial Stability, Elsevier, vol. 69(C).

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    More about this item

    Keywords

    Bank runs; Inside money; Risk-sharing;
    All these keywords.

    JEL classification:

    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • E42 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Monetary Sytsems; Standards; Regimes; Government and the Monetary System

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