Optimal regulation of credit lines

José E. Gutiérrez
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José E. Gutiérrez: Banco de España

No 2323, Working Papers from Banco de España

Abstract: This paper presents a contract-theoretic model in which banks choose pre-arranged and ex post funding to finance firms’ liquidity needs through credit lines. When liquidity needs are high, pre-arranged funding is key to sustaining lending and reducing the number of firms going into liquidation. Yet, in the presence of a pecuniary externality on firms’ liquidation values, competitive banks choose insufficient pre-funding compared with a constrained social planner. Constrained efficiency can be restored using regulatory liquidity ratios. The optimal regulatory ratio depends on the frequency of high liquidity need conditions, the value lost after a firm’s liquidation, and the premium on pre-funding.

Keywords: credit lines; bank liquidity risk regulation; LCR; NSFR; Basel III (search for similar items in EconPapers)
JEL-codes: G01 G21 G28 G32 (search for similar items in EconPapers)
Pages: 41 pages
Date: 2023-08
New Economics Papers: this item is included in nep-ban, nep-cfn, nep-inv and nep-rmg
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Persistent link: https://EconPapers.repec.org/RePEc:bde:wpaper:2323

DOI: 10.53479/33492

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