Working Paper: CEPR ID: DP10901
Authors: Carlos Garcia-Deandaoin; Florian Heider; Marie Hoerova; Simone Manganelli
Abstract: This paper investigates the impact of ample liquidity provision by the European Central Bank on the functioning of the overnight unsecured interbank market from 2008 to 2014. We use novel data on interbank transactions derived from TARGET2, the main euro area payment system. To identify exogenous shocks to central bank liquidity, we exploit the timing of ECB liquidity operations and use a simple structural vector auto-regression framework. We argue that the ECB acted as a de-facto lender-of-last-resort to the euro area banking system and identify two main effects of central bank liquidity provision on interbank markets. First, central bank liquidity replaces the demand for liquidity in the interbank market, especially during the financial crisis (2008-2010). Second, it increases the supply of liquidity in the interbank market in stressed countries (Greece, Italy and Spain) during the sovereign debt crisis (2011-2013).
Keywords: Central Bank Policy; Financial Crisis; Interbank Markets; Lender of Last Resort; Sovereign Debt Crisis
JEL Codes: E58; F36; G01; G21
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| ECB liquidity provision (E52) | interbank market activity (F33) |
| increase in central bank liquidity provision (E58) | decrease in interbank volumes (F65) |
| ECB liquidity provision (E52) | stimulate supply of liquidity in stressed countries (E44) |
| excess liquidity (E51) | decrease in interbank volumes (F65) |
| excess liquidity (E51) | lower interest rates (E43) |
| ECB liquidity provision (before mid-2011) (E58) | stronger impact on interbank market (F65) |