Bank Liquidity Creation and Financial Crises

Allen N. Berger, Christa Bouwman

• Publisher: Academic Press
• Year: 2015
• Print ISBN:
  9780128002339
• eBook ISBN:
  9780128005316
• Topic: Economia
• Subtopic: Settore bancario

Bank Liquidity Creation and Financial Crises delivers a consistent, logical presentation of bank liquidity creation and addresses questions of research and policy interest that can be easily understood by readers with no advanced or specialized industry knowledge. Authors Allen Berger and Christa Bouwman examine ways to measure bank liquidity creation, how much liquidity banks create in different countries, the effects of monetary policy (including interest rate policy, lender of last resort, and quantitative easing), the effects of capital, the effects of regulatory interventions, the effects of bailouts, and much more. They also analyze bank liquidity creation in the US over the past three decades during both normal times and financial crises. Narrowing the gap between the "academic world" (focused on theories) and the "practitioner world" (dedicated to solving real-world problems), this book is a helpful new tool for evaluating a bank's performance over time and comparing it to its peer group. - Explains that bank liquidity creation is a more comprehensive measure of a bank's output than traditional measures and can also be used to measure bank liquidity - Describes how high levels of bank liquidity creation may cause or predict future financial crises - Addresses questions of research and policy interest related to bank liquidity creation around the world and provides links to websites with data and other materials to address these questions - Includes such hot-button topics as the effects of monetary policy (including interest rate policy, lender of last resort, and quantitative easing), the effects of capital, the effects of regulatory interventions, and the effects of bailouts

Part I

Introductory Materials

Chapter 1: Introduction

Chapter 2: Liquidity Creation Theories

Chapter 3: Understanding Financial Statements

Chapter 1

Introduction

Abstract

This chapter explains the purpose of this book: To inform bank executives, financial analysts, researchers (including academics and students), and policy makers (including legislators, regulators, and central bankers) about bank liquidity creation, financial crises, and the links between the two. The book covers theory and empirical research from the United States and other nations, and new analyses on the United States. Quarterly data on bank liquidity creation used in the new analyses (from 1984:Q1 to 2014:Q4) are available for free on the book’s website (http://booksite.elsevier.com/9780128002339) for use in future research and will be updated regularly. This chapter also introduces the other chapters of the book. The key takeaways from this chapter are the importance of bank liquidity creation, financial crises, and their links; and encouragement to perform further analysis, research, and policy work on topics discussed in the book, including the open questions that are introduced.

Keywords

banks

liquidity creation

financial crises

types of financial institutions

This chapter gives the focus of the book: to inform readers about liquidity creation by commercial banks, financial crises, and their links. It also describes commercial banks and indicates how they differ from other financial institutions. Finally, it provides a brief overview of all the other chapters in the book. Specifically, it introduces liquidity creation theories and measurement; how liquidity creation may be used to measure bank output and bank liquidity; alternative approaches to defining and dating financial crises; links between bank liquidity creation and these crises; how much liquidity banks create during normal times and financial crises; the effects of bank capital, other bank characteristics, and government policies and actions on liquidity creation; and many more topics.

1.1. The focus of the book

The purpose of the book is to inform bank executives, financial analysts, researchers (including academics and students), and policy makers (including legislators, regulators, and central bankers) about bank liquidity creation, financial crises, and the links between the two. The book explains that bank liquidity creation is a more comprehensive measure of a bank’s output than traditional measures. It discusses that when a bank creates liquidity for the public, it makes itself illiquid in the process. It then shows how normalized liquidity creation (i.e., liquidity creation divided by assets) may be used as a direct measure of bank illiquidity, or an inverse measure of bank liquidity. The book describes how high levels of bank liquidity creation may cause or predict future financial crises, and how bank liquidity creation tends to fall during such crises. It reviews the existing theoretical and empirical literature, provides new econometric analyses using liquidity creation and financial crisis data, raises new questions to be addressed in future research, and provides links to websites with data and other materials to address these questions. The information in this book is generally not available in other banking textbooks (e.g., Freixas and Rochet, 2008; Saunders and Cornett 2014; and Greenbaum, Thakor, and Boot, 2016).

The book’s website (http://booksite.elsevier.com/9780128002339) contains more than three decades of quarterly liquidity creation data on virtually every commercial bank in the United States. At the time of this writing, these data cover the period 1984:Q1–2014:Q4. It also provides links to other websites containing downloadable data, documents, and key information that are helpful for those interested in studying bank liquidity creation, financial crises, and many other important banking topics using US data. The liquidity creation data and the web links will be updated regularly in the future.

The main emphasis in the book is on commercial banks, although – as discussed in the book – liquidity creation may be measured and analyzed for other financial institutions and markets. Box 1.1 describes commercial banks and compares them with other types of financial institutions.

Box 1.1 Different Types of Financial Institutions

The financial institutions discussed below are very common in the United States, but the array of institutions in other nations may differ.

Commercial banks are typically defined as institutions that make commercial loans and issue transactions deposits. They also have many other types of assets and liabilities and may engage in off-balance sheet activities, including financial guarantees (like loan commitments) and derivatives.^a They are unique among financial institutions in having significant off-balance sheet activities, although most of these activities are concentrated in the largest commercial banks. Commercial banks are highly regulated.

Given their important role in the economy, they have access to a government safety net: a large part of their deposit funding tends to be covered by government deposit insurance (in the United States provided by the Federal Deposit Insurance Corporation (FDIC)) to avoid potentially disruptive bank runs by depositors, and they may have access to liquidity provided by the central bank (the Federal Reserve in the United States), also called the lender of last resort, when needed. In addition, the very largest commercial banks are typically thought to be too big to fail, meaning that the government would not allow these institutions to fail. All of these protections may lead to moral hazard incentives that cause banks to take excessive risks.^b To curb such undue risk taking and to keep the banking sector healthy, regulators impose capital requirements and other prudential regulation and supervision (such as regular examinations to ensure that banks do not have excessively risky portfolios) on commercial banks.

Commercial banks in the United States are regulated and supervised by several authorities. The Federal Reserve and state banking authorities regulate state-chartered banks that choose to be members of the Federal Reserve System.^c The FDIC and state banking authorities regulate state-chartered nonmember banks. The Office of the Comptroller of the Currency (OCC) charters, regulates, and supervises nationally chartered banks.

The four largest US commercial banks, each with well over $1 trillion in assets as of 2014:Q4, are JPMorgan Chase Bank, Bank of America, Well...

Table of contents

• Cover
• Title page
• Table of Contents
• Copyright
• Dedication
• Preface
• Acknowledgments
• Part I: Introductory Materials
• Part II: Liquidity Creation Measurement and Uses
• Part III: Financial Crises, Liquidity Creation, and their Links
• Part IV: Causes and Consequences of Liquidity Creation
• Part V: Looking Toward the Future
• References
• Author Index
• Subject Index