Optimal Intermediation Under Aggregate Consumption Uncertainty

Ioannis Lazopoulos

No 710, School of Economics Discussion Papers from School of Economics, University of Surrey

Abstract: The paper develops a banking framework where a welfare comparison is made between non-tradable demand deposit and equity contracts. Contrary to the existing literature that relies heavily on smooth preferences assumption to justify the liquidity insurance superiority of the ‘run-prone’ debt contracts over the ‘run-free’ equity contracts, the paper shows that when aggregate consumption uncertainty is introduced, the welfare dominance of deposit contracts emerges for a simpler preference structure as deposit contracts offer more risk-sharing opportunities. The model illustrates that such uncertainty creates a high dispersion between the allocations that can be attained by trading in the secondary market, and therefore the equity contract provides ex ante less risk-sharing to risk-averse consumers than a tailored-made debt contract.

Keywords: financial intermediation; aggregate uncertainty; deposit contracts; equity contracts. (search for similar items in EconPapers)
JEL-codes: D81 D82 G21 (search for similar items in EconPapers)
Pages: 34 pages
Date: 2010-09
New Economics Papers: this item is included in nep-ban, nep-dge and nep-mic
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https://repec.som.surrey.ac.uk/2010/DP07-10.pdf (application/pdf)

Related works:
Journal Article: Liquidity uncertainty and intermediation (2013)
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Persistent link: https://EconPapers.repec.org/RePEc:sur:surrec:0710

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