Credit Market Competition and Liquidity Crises

Elena Carletti () and Agnese Leonello

No 4647, CESifo Working Paper Series from CESifo

Abstract: We develop a model where banks invest in reserves and loans, and face aggregate liquidity shocks. Banks with liquidity shortage sell loans on the interbank market. Two equilibria emerge. In the no default equilibrium, all banks hold enough reserves and remain solvent. In the mixed equilibrium, some banks default with positive probability. The former exists when credit market competition is intense. The latter emerges when banks exercise market power. Thus, competition is beneficial to financial stability. The structure of liquidity shocks affects the severity and the occurrence of crises, as well as the amount of credit available in the economy.

Keywords: interbank market; default; price volatility (search for similar items in EconPapers)
JEL-codes: G01 G21 (search for similar items in EconPapers)
Date: 2014
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Related works:
Journal Article: Credit Market Competition and Liquidity Crises (2019)
Working Paper: Credit market competition and liquidity crises (2016)
Working Paper: Credit Market Competition and Liquidity Crises (2013)
Working Paper: Credit Market Competition and Liquidity Crises (2012)
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Persistent link: https://EconPapers.repec.org/RePEc:ces:ceswps:_4647

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