A Model of Interbank Settlement

Benjamin Lester

No 282, 2006 Meeting Papers from Society for Economic Dynamics

Abstract: A settlement system is a set of rules and procedures that govern when and how funds are transferred between banks. Perhaps the most crucial feature of a settlement system is the frequency with which settlement occurs. On the one hand, a higher frequency of settlement limits the risk of default should a bank be rendered insolvent. On the other hand, a lower frequency of settlement is less costly for banks to operate. We construct a model of the banking sector in which this trade-off between cost and risk arises endogenously. We then complete the economy with a trading sector that has a micro-founded role for credit as a media of exchange. The result is a general equilibrium model that allows for welfare and policy analysis. We parameterize the economy and study the optimal intra-day borrowing policy that the operator of a settlement system should impose on member banks. We also determine conditions under which one settlement system is more appropriate than another

Keywords: Payment Systems; Banking; Liquidity (search for similar items in EconPapers)
JEL-codes: E40 E50 (search for similar items in EconPapers)
Date: 2006
New Economics Papers: this item is included in nep-ban, nep-cba and nep-mac
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (4)

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