Liquidity Management in Banking: What is the Role of Leverage?

Quynh-Anh Vo

No 15-51, Swiss Finance Institute Research Paper Series from Swiss Finance Institute

Abstract: This paper examines potential impacts of banks' leverage on their incentives to manage their liquidity. We analyse a model where banks control their liquidity risk by managing their liquid asset positions. In the basic framework, a model with a single bank, where the possibility of selling long-term assets when in need of liquidity is not taken into account, we find that the bank chooses to prudently manage its liquidity risk only when its leverage is low. In a model with multiple banks and a secondary market for long-term assets, we find that a banking system where banks are highly leveraged can be prone to liquidity crises. Our model predicts a typical pattern of liquidity crises that is consistent with what was observed during the 2007-2009 crisis.

Keywords: Leverage; Liquidity Risk; Moral Harzard; Cash-In-The-Market Pricing (search for similar items in EconPapers)
JEL-codes: D82 G21 (search for similar items in EconPapers)
Pages: 43 pages
Date: 2015-10
New Economics Papers: this item is included in nep-ban, nep-cse and nep-rmg
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Persistent link: https://EconPapers.repec.org/RePEc:chf:rpseri:rp1551

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