Are Banks Passive Liquidity Backstops? Deposit Rates and Flows during the 2007-2009 Crisis

Viral Acharya and Nada Mora

No 8706, CEPR Discussion Papers from C.E.P.R. Discussion Papers

Abstract: Can banks maintain their advantage as liquidity providers when they are heavily exposed to a financial crisis? The standard argument - that banks can - hinges on deposit inflows that are seeking a safe haven and provide banks with a natural hedge to fund drawn credit lines and other commitments. We shed new light on this issue by studying the behavior of bank deposit rates and inflows during the 2007-09 crisis. Our results indicate that the role of the banking system as a stabilizing liquidity insurer is not one of the passive recipient, but of an active seeker, of deposits. We find that banks facing a funding squeeze sought to attract deposits by offering higher rates. Banks offering higher rates were also those most exposed to liquidity demand shocks (as measured by their unused commitments, wholesale funding dependence, and limited liquid assets), as well as with fundamentally weak balance-sheets (as measured by their non-performing loans or by subsequent failure). Such rate increases have a competitive effect in that they lead other banks to offer higher rates as well. Overall, the results present a nuanced view of deposit rates and flows to banks in a crisis, one that reflects banks not just as safety havens but also as stressed entities scrambling for deposits.

Keywords: Liquidity; Liquidity risk; Solvency risk; Financial crisis; Flight to safety (search for similar items in EconPapers)
JEL-codes: E4 G01 G11 G21 G28 (search for similar items in EconPapers)
Date: 2011-12
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 (6)

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Related works:
Working Paper: Are Banks Passive Liquidity Backstops? Deposit Rates and Flows during the 2007-2009 Crisis (2012)
Working Paper: Are banks passive liquidity backstops? deposit rates and flows during the 2007-2009 crisis (2011)
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