Liquidity Rules and Credit Booms

Kinda Hachem and Zheng Michael Song

No 21880, NBER Working Papers from National Bureau of Economic Research, Inc

Abstract: This paper shows that liquidity regulation can trigger unintended credit booms in the presence of interbank market power. We consider a price-setter and a continuum of price-takers who trade reserves after the realization of idiosyncratic liquidity shocks. The price-takers are endogenously less liquid and circumvent regulation by engaging in shadow banking, which leads to a reallocation of funding away from the more liquid price-setter. This reallocation channel underlies the credit boom. Endogenous responses in bank liquidity ratios also affect the magnitude of the boom. We discuss extensions of the model and illustrate its quantitative performance with an application to China.

JEL-codes: E44 G28 (search for similar items in EconPapers)
Date: 2016-01
New Economics Papers: this item is included in nep-ban, nep-cba, nep-cna, nep-mac and nep-tra
Note: CF EFG ME
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (10)

Published as Kinda Hachem & Zheng Song, 2021. "Liquidity Rules and Credit Booms," Journal of Political Economy, vol 129(10), pages 2721-2765.

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Journal Article: Liquidity Rules and Credit Booms (2021)
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