NATIONAL BUREAU OF ECONOMIC RESEARCH
NATIONAL BUREAU OF ECONOMIC RESEARCH

Liquidity Requirements, Liquidity Choice and Financial Stability

Douglas W. Diamond, Anil K. Kashyap

NBER Working Paper No. 22053
Issued in March 2016
NBER Program(s):CF, ME

We study a modification of the Diamond and Dybvig (1983) model in which the bank may hold a liquid asset, some depositors see sunspots that could lead them to run, and all depositors have incomplete information about the bank’s ability to survive a run. The incomplete information means that the bank is not automatically incentivized to always hold enough liquid assets to survive runs. Regulation similar to the liquidity coverage ratio and the net stable funding ratio (that are soon be implemented) can change the bank’s incentives so that runs are less likely. Optimal regulation would not mimic these rules.

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Document Object Identifier (DOI): 10.3386/w22053

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