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http://hdl.handle.net/2451/28311
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| Title: | Precautionary Hoarding of Liquidity and Inter-Bank Markets: Evidence
from the Sub-prime Crisis |
| Authors: | Acharya, Viral V.
Merrouche, Ouarda |
| Issue Date: | 3-Jul-2009 |
| Series/Report no.: | FIN-09-018 |
| Abstract: | Using data on the behavior of large settlement banks in the UK and the
Sterling Money Markets before and during the sub-prime crisis of
2007-08, we provide evidence of precautionary hoarding of liquidity and
its e ect on inter-bank borrowing rates. Our evidence consists of three
pieces. First, we document that liquidity holdings of the large
settlement banks in the UK experienced on average a 30% increase in the
period immediately following 9th August, 2007, the widely accepted date
of money-market "freeze" during the sub-prime crisis. Second,
we show that following this structural break, bank liquidity had a
precautionary nature in that it rose on calendar days predicted to have
a large amount of uctuations in payment and settlements activity and
more so for banks that made larger losses during the crisis. Third,
using the payment and settlements activity as an instrument, we
establish a causal e ect of bank liquidity on overnight inter-bank
rates, in both secured and unsecured markets, an e ect that is virtually
absent in the period before the crisis. Importantly, precautionary
hoardings by some settlement banks raised lending rates for all
settlement banks, suggestive of a contagion-style systemic risk
operating through inter-bank rates. Finally, variability in overnight
inter-bank rates appears to have a ected rates and volumes in household
as well as corporate lending. |
| URI: | http://hdl.handle.net/2451/28311 |
| Appears in Collections: | Finance Working Papers
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