Freixas X, Martin A, Skeie D

FREIXAS DARGALLO, XAVIER

Scholarly articles

The Review of Financial Studies

2011

24

8

2656-2692

0893-9454

Published

A lesson of the recent financial crisis is that the interbank market is crucial for banks facing uncertainty regarding their liquidity needs. This article studies the efficiency of the interbank market in allocating funds. We show that the central bank should lower the interbank rate when confronted with a crisis that causes a disparity in the liquidity held among banks. This suggests that the traditional tenet prescribing the separation between prudential regulation and monetary policy should be abandoned. We also show that failure to cut interest rates during a crisis erodes financial stability by increasing the risk of bank runs.

Freixas X, Martin A, Skeie D. Bank Liquidity, Interbank Markets and Monetary Policy. The Review of Financial Studies 2011; 24(8): 2656-2692.