Liquidity Requirements and the Interbank Loan Market: An Experimental Investigation

Douglas Davis, Oleg Korenok, John Lightle and Edward Prescott

No 1810, Working Papers (Old Series) from Federal Reserve Bank of Cleveland

Abstract: We develop a stylized interbank market environment and use it to evaluate with experimental methods the effects of liquidity requirements. Baseline and liquidity-regulated regimes are analyzed in a simple shock environment, which features a single idiosyncratic shock, and in a compound shock environment, in which the idiosyncratic shock is followed by a randomly occurring second-stage shock. Interbank trading of the illiquid asset follows each shock. In the simple shock environment, we find that liquidity regulations reduce the incidence of bankruptcies, but at a large loss of investment efficiency. In the compound shock environment, liquidity regulations not only impose a loss of investment efficiency but also fail to reduce bankruptcies.

Keywords: Interbank market; liquidity regulations; market experiments (search for similar items in EconPapers)
JEL-codes: C9 G21 (search for similar items in EconPapers)
Pages: 37 pages
Date: 2018-07-31
New Economics Papers: this item is included in nep-exp
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (1)

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Journal Article: Liquidity requirements and the interbank loan market: An experimental investigation (2020)
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DOI: 10.26509/frbc-wp-201810

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