Working Paper: CEPR ID: DP7794
Authors: Falko Fecht; Kjell G. Nyborg; Jörg Rocholl
Abstract: We identify frictions in the market for liquidity as well as bank-specific and market-wide factors that affect the prices that banks pay for liquidity, captured here by borrowing rates in repos with the central bank and benchmarked by the overnight index swap. We have price data at the individual bank level and, unique to this paper, data on individual banks? reserve requirements and actual reserve holdings, thus allowing us to gauge the extent to which a bank is short or long liquidity. We find that the price a bank pays for liquidity depends on the liquidity positions of other banks, as well as its own. There is evidence that liquidity squeezes occasionally occur and short banks pay more the larger is the potential for a squeeze. The price paid for liquidity is decreasing in bank size and small banks are more adversely affected by an increased potential for a squeeze. Healthier banks pay less, but contrary to what one might expect, banks in formal liquidity networks do not.
Keywords: banks; financial health; liquidity; money markets; repos; short squeezing
JEL Codes: D44; E43; E58; G12; G21
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| formal liquidity networks (E51) | liquidity pricing (G19) |
| other banks' liquidity positions (G21) | borrowing rates a bank pays for liquidity (G21) |
| bank size (G21) | liquidity pricing (G19) |
| healthier banks (G21) | liquidity costs (G33) |
| liquidity squeeze (E51) | price of liquidity for smaller banks (G21) |