High Liquidity Creation and Bank Failures: Do They Behave Differently?

Zuzana Fungáčová, Rima Turk Ariss and Laurent Weill

No 2015/103, IMF Working Papers from International Monetary Fund

Abstract: We formulate the “High Liquidity Creation Hypothesis” (HLCH) that a proliferation in the core activity of bank liquidity creation increases failure probability. We test the HLCH in the context of Russian banking, which provides a natural field experiment due to numerous failures experienced over the past decade. Using Berger and Bouwman’s (2009) liquidity creation measures as a comprehensive proxy for overall bank output, we find that high liquidity creation significantly increases the probability of bank failure; this finding survives multiple robustness checks. Our results suggest that regulatory authorities can mitigate systemic distress and reduce the costs of bank failures to society through early identification of high liquidity creators and enhanced monitoring of their funding and investment activities.

Keywords: WP; liquidity creation; liquidity creator; liquidity shortage; return on assets; liquidity commitment; small business; Bank Failures; creation measure; creation bank; bank failure literature; creation increase; liquidity creation activity; liquidity demand; creation ratio; liquidity shock; Distressed institutions; Liquidity; Liquidity management; Loans; Small and medium enterprises; Global (search for similar items in EconPapers)
Pages: 33
Date: 2015-05-06
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Citations: View citations in EconPapers (18)

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