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Banks Are Where The Liquidity Is

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  • Hart, Oliver
  • Zingales, Luigi

Abstract

What is so special about banks that their demise often triggers government intervention? In this paper we show that, even ignoring interconnectedness issues, the failure of a bank causes a larger welfare loss than the failure of other institutions. The reason is that agents in need of liquidity tend to concentrate their holdings in banks. Thus, a shock to banks disproportionately affects the agents who need liquidity the most, reducing aggregate demand and the level of economic activity. The optimal fiscal response to such a shock is to help people, not banks, and the size of this response should be larger if a bank, rather than a similarly-sized nonfinancial firm, fails.

Suggested Citation

  • Hart, Oliver & Zingales, Luigi, 2014. "Banks Are Where The Liquidity Is," CEPR Discussion Papers 10017, C.E.P.R. Discussion Papers.
    • Handle: RePEc:cpr:ceprdp:10017
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    References listed on IDEAS

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    1. Arvind Krishnamurthy & Annette Vissing-Jorgensen, 2012. "The Aggregate Demand for Treasury Debt," Journal of Political Economy, University of Chicago Press, vol. 120(2), pages 233-267.
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    Cited by:

    1. Robert J Barro & Jesús Fernández-Villaverde & Oren Levintal & Andrew Mollerus, 2022. "Safe Assets," The Economic Journal, Royal Economic Society, vol. 132(646), pages 2075-2100.
      • Robert J. Barro, 2014. "Safe Assets," Working Papers 2014-28, Economic Research Institute, Bank of Korea.
      • Robert J. Barro & Jesús Fernández-Villaverde & Oren Levintal & Andrew Mollerus, 2014. "Safe Assets," NBER Working Papers 20652, National Bureau of Economic Research, Inc.
      • Fernández-Villaverde, Jesús & Barro, Robert & Levintal, Oren & Mollerus, Andrew, 2017. "Safe Assets," CEPR Discussion Papers 12043, C.E.P.R. Discussion Papers.
      • Robert Barro & Jesus Fernandez-Villaverde & Oren Levintal & Andrew Mollerus, 2017. "Safe Assets," PIER Working Paper Archive 17-008, Penn Institute for Economic Research, Department of Economics, University of Pennsylvania, revised 10 May 2017.
    2. Xuan Wang, 2019. "When Do Currency Unions Benefit From Default ?," 2019 Papers pwa938, Job Market Papers.
    3. Denbee, Edward & Julliard, Christian & Li, Ye & Yuan, Kathy, 2021. "Network risk and key players: A structural analysis of interbank liquidity," Journal of Financial Economics, Elsevier, vol. 141(3), pages 831-859.
    4. Xuan Wang, 2021. "Bankruptcy Codes and Risk Sharing of Currency Unions," Tinbergen Institute Discussion Papers 21-009/IV, Tinbergen Institute.
    5. Brown, Kareen & Jha, Ranjini & Pacharn, Parunchana, 2015. "Ex ante CEO severance pay and risk-taking in the financial services sector," Journal of Banking & Finance, Elsevier, vol. 59(C), pages 111-126.
    6. Deniz Aydin, 2015. "The Marginal Propensity to Consume out of Liquidity," Discussion Papers 15-010, Stanford Institute for Economic Policy Research.
    7. Ye Li, 2018. "Fragile New Economy: The Rise of Intangible Capital and Financial Instability," 2018 Meeting Papers 1189, Society for Economic Dynamics.
    8. Bucci, Alberto & La Torre, Davide & Liuzzi, Danilo & Marsiglio, Simone, 2019. "Financial contagion and economic development: An epidemiological approach," Journal of Economic Behavior & Organization, Elsevier, vol. 162(C), pages 211-228.

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    More about this item

    Keywords

    Bailout; Banking; Liquidity;
    All these keywords.

    JEL classification:

    • E41 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Demand for Money
    • E51 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Money Supply; Credit; Money Multipliers
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages

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