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Interbank Lending, reserve requirements and systemic risk

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  • giulia iori and Saqib Jafarey

Abstract

We simulate a model of an interbank market. Each bank faces fluctuations in deposits and a stochastic investment opportunity each period. Invested funds mature with delay. The risk arises of failure due to insufficient liquidity. An interbank market lets participants pool this risk but also creates the potential for one bank's failure to lead to an epidemic of further failures. With homogeneous banks, contagion effects are small and a wider interbank network leads to more stability. When banks differ in liquidity risk or in size, contagion effects become more important. Widening the interbank market can then lead both to episodes of systemic collapse and a larger overall incidence of bank failures.

Suggested Citation

  • giulia iori and Saqib Jafarey, 2001. "Interbank Lending, reserve requirements and systemic risk," Computing in Economics and Finance 2001 63, Society for Computational Economics.
    • Handle: RePEc:sce:scecf1:63
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    Cited by:

    1. Dairo Estrada & Daniel Osorio, 2006. "A Market Risk Approach to Liquidity Risk and Financial Contagion," Revista ESPE - Ensayos sobre Política Económica, Banco de la Republica de Colombia, vol. 24(50), pages 242-271, June.
    2. E. Samanidou & E. Zschischang & D. Stauffer & T. Lux, 2001. "Microscopic Models of Financial Markets," Papers cond-mat/0110354, arXiv.org.
    3. E. Samanidou & E. Zschischang & D. Stauffer & T. Lux, 2007. "Agent-based Models of Financial Markets," Papers physics/0701140, arXiv.org.
    4. Pawe{l} Smaga & Mateusz Wili'nski & Piotr Ochnicki & Piotr Arendarski & Tomasz Gubiec, 2016. "Can banks default overnight? Modeling endogenous contagion on O/N interbank market," Papers 1603.05142, arXiv.org.
    5. Michael Boss & Helmut Elsinger & Martin Summer & Stefan Thurner, 2004. "Network topology of the interbank market," Quantitative Finance, Taylor & Francis Journals, vol. 4(6), pages 677-684.
    6. Sever, Can, 2014. "Systemic Liquidity Crisis with Dynamic Haircuts," MPRA Paper 55602, University Library of Munich, Germany.
    7. Gibson, Heather D. & Hall, Stephen G. & Tavlas, George S., 2018. "Measuring systemic vulnerability in European banking systems," Journal of Financial Stability, Elsevier, vol. 36(C), pages 279-292.
    8. Heather D. Gibson & Stephen G. Hall & George S. Tavlas, 2016. "Measuring Systemic Stress in European Banking Systems," Discussion Papers in Economics 16/19, Division of Economics, School of Business, University of Leicester.

    More about this item

    Keywords

    systemic risk; contagion; interbank lending.;
    All these keywords.

    JEL classification:

    • E5 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages

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