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In this paper we analyze the implications of a persistent liquidity trap in a monetary model with asset scarcity and price flexibility. We show that a liquidity trap leads to an increase in cash holdings and may be associated with a long-term output decline. This long-term impact is a supply-side effect that may arise when agents are heterogeneous. It occurs in particular with a persistent deleveraging shock, leading investors to hold cash yielding a low return. Policy implications differ from shorter-run analyses. Quantitative easing leads to a deeper liquidity trap. Exiting the trap by increasing expected inflation or applying negative interest rates does not solve the asset scarcity problem.

The effectiveness of negative interest rates as a monetary policy tool depends importantly on the response of the banking sector. This paper offers unique new insights for U.S. banks by using supervisory data to examine bank-level expectations regarding the impact of negative rates on profitability through net interest margins. The main results show that the largest U.S. banks differ significantly in how they respond to negative interest rates. The most significant channel of adverse exposure comes from the pass-through of the negative policy rate to interest rates on short-term liquid assets held on the balance sheet. At the same time, on the liability side, banks that rely more heavily on short-term wholesale funding, including financing through the repo market, may benefit through a reduction in funding costs. In the aggregate, these effects likely wash out as liquidity provision is sufficiently well diversified across the banking sector as a whole.

We study the effects of fiscal policy on the macroeconomy using a liquidity‐constrained New Keynesian model in which government bonds are liquid, and private financial assets are only partially liquid. We find that the fiscal multipliers in this economic environment are large enough for fiscal policy to be highly effective. In this model, a bond‐financed fiscal expansion can stimulate output because higher public borrowing improves liquidity by increasing the proportion of liquid assets in private‐sector wealth.

Noting the time-varying dynamics in liquidity, we use a generalized dynamic factor model (GDFM) to identify market-wide liquidity across foreign exchange (FX) markets. Liquidity commonality across currencies increases during the 2008–2009 global financial crisis and the 2009–2011 European sovereign debt crisis, which affirms the spiral effect between funding liquidity and FX market liquidity. The effect of funding constraint on liquidity in the FX market may be through carry trade activities that link the FX market and other classes of asset markets, as suggested by Melvin and Taylor (2009) and Banti (2016). The shift in liquidity commonality around the release of macroeconomic announcements also can be related to the spurs of unwinding carry trade positions in response to unexpected macro shock that affects interest rate differential. In contrast, quantitative easing (QE) policies in the United States, which inject high capital inflows into financial markets, are associated with decreased liquidity commonality, implying that QE implementation actually improves the funding liquidity and weakens the spiral effect, ultimately inducing weaker commonality in FX liquidity.

This study seeks to understand and elucidate shifts of gold, dollar, and stock market liquidity, both before and after the 2008 financial crisis. The relationship among these assets is examined by allowing for nonlinear dynamics in the speed of adjustment to the equilibrium. The findings document the predictability role of liquidity proxies of dollar and equity on gold liquidity even after accounting for macroeconomic variables, suggesting that liquidity of both assets maintains an influence on gold behavior. During periods of high exchange-rate volatility between currencies, gold liquidity becomes highly affected by dollar liquidity movements through a nonlinear smooth transition framework. Yet evidence reveals that to fully understand the movements of gold and dollar it is necessary to factor in stock market liquidity as well.

The main contribution of this paper is to identify the relationship between liquidity excess and futures copper price in developing countries. To this end, we compare various measures of liquidity excess and identify one that can measure the degree of liquidity excess and which is particularly applicable to developing countries like China. Through multiple regression analysis, it is found that liquidity excess accounts for the changes of copper prices in the future market.

Our article models liquidity financing constraints with the real options framework. By conducting a comprehensive investigation of the effects of shocks to liquidity constraints on the firm’s optimal investment, financing and dividend policies, our model highlights the importance of liquidity management and extends the liquidity management approach to hedge liquidity default risk. We find that being concerned about liquidity default risk will significantly change a firm’s behaviours, including those related to investment and the optimal capital structure. A firm that is concerned about its liquidity default risk will become more cautious: it will choose to delay investment and have higher leverage when internal liquidity is very low, but choose earlier investment and lower leverage when liquidity is high enough. The dividends policy can alleviate risks from both the external market and internal project volatility and provides an alternative explanation for the ‘smooth dividends policy puzzle’ comm...

Japan has been in a benign liquidity trap since the 1990s. In a benign liquidity trap, interest rates approach zero and monetary policy is ineffective but output and employment perform decently. Such a pattern contradicts traditional macro theories. This paper introduces a monetary general equilibrium model that is compatible with Japan’s performance and resolves puzzles associated with liquidity traps. Possible conclusions for Anglo-Saxon countries and eurozone members are also discussed.

This article examines the liquidity of the London capital markets in the decades following the liberalization of UK incorporation law. Using comprehensive stock and bond data, we calculate a measure of market liquidity for the period 1825–70. We find that stock market liquidity trended upwards but bond market liquidity did not increase over the sample period. Stock market liquidity during our sample period was partially influenced by the bond market, rather than fluctuations in economic output. In our analysis of the cross-sectional determinants of individual stock liquidity, we find that firm size and the number of issued shares were important determinants of liquidity. Finally, we find little evidence of an illiquidity premium, which is consistent with the view that investors did not price liquidity in this nascent market.

We introduce liquidity frictions into an otherwise standard DSGE model with nominal and real rigidities, explicitly incorporating the zero bound on the short-term nominal interest rate. Within this framework, we ask: Can a shock to the liquidity of private paper lead to a collapse in short-term nominal interest rates and a recession like the one associated with the 2008 U.S. financial crisis? Once the nominal interest rate reaches the zero bound, what are the effects of interventions in which the government exchanges liquid government assets for illiquid private paper? We find that the effects of the liquidity shock can be large, and we show some numerical examples in which the liquidity facilities prevented a repeat of the Great Depression in 2008-09.

We study liquidity effects and monetary policy in a model with fully flexible prices and explicit roles for money and financial intermediation. Banks hold some fractions of deposits and money injections as liquidity buffers. The higher the fraction kept as reserves, the less liquid the money is. Unexpected money injections raise output and lower nominal interest rates if and only if the newly injected money is more liquid than the initial money stocks. If banks hold no liquidity buffers, liquidity effects are eliminated. In an extended model with temporary shocks, we show that failure to withdraw state-contingent money injections does not make the stabilization policy neutral, though the economy may undergo higher short-run fluctuations than otherwise. Under this circumstance, the success of stabilization policy relies on unexpected money injections being more liquid than the initial money stock.

This paper revisits the long-run relationship between inflation and economic growth by exploring the impact of inflation on investment. I illustrate that inflation may have a positive effect on growth by mitigating the liquidity risks of investment projects. Together with the traditional effect of the “inflation tax” on investment, a hump-shaped relationship between inflation and economic growth can be obtained in a calibrated model, which is consistent with the US postwar data. Sensitivity analysis suggests that the degree of financial development and the magnitude of the aggregate liquidity demand help explain the mixed empirical findings.

A simple monetary model is constructed to explore dynamic interactions among the choice of means of payment, bank's reserves, a liquidity shortfall, and monetary policy. In the presence of credit-transaction cost shocks, a bank that issues credit can face a liquidity shortfall as its ex-ante reserves fall short of liquidity demand. In equilibrium, credit payments and collections by a bank are balanced with each other and hence bank's ex-post reserve holdings crucially depend on the demand for cash. The likelihood of a liquidity shortfall increases with credit-transaction costs due to larger cash withdrawals. When the government increases money growth, both the demand for cash and the likelihood of a liquidity shortfall increase.

Friedman’s proposition that money supply increases should lead to liquidity surges – to credit expansion – has yet received unanimous empirical support. We extend a test for this liquidity effect on non-bank share prices in four major Asian economies, which have not been studied. Using lengthy quarterly data series over 1966–2012, our results from applying single, and cointegration equations using dynamic OLS method, suggest money supply changes lead to a positive liquidity effect, as per the theory prediction. We also show that liquidity changes have a significant positive effect on share prices, after controlling the effects of earning changes, regime changes and the global financial crisis. These findings, obtained after solutions to serious econometric issues in existing studies, appear to provide a clear verification of theory on the money supply effect on liquidity and liquidity effect on non-bank share prices.

This paper examines the relationship between business cycles and market wide liquidity using a non-linear approach to capture the dynamics of macroeconomic time series. Applying both the Markov switching-regime and the smooth-transition autoregressive models and various proxies for liquidity, this study presents weak evidence that liquidity fundamentals act as leading indicators of future economic conditions. Whether stock market aggregate liquidity can be exploited to predict the future state of the economy remains an open question.

We investigate the relationship between free float and stock market liquidity using a sample covering 55 countries from 2003 to 2011. We find that stocks with higher free float have a higher level of liquidity. The relationship between free float and liquidity is evident in all regions regardless of the degree of economic development or geographic location and is more pronounced when the legal structure and corporate governance environment are strong. We present evidence that free float can mitigate liquidity dry-ups when there are large shocks to market liquidity, such as during the recent financial crisis. Finally, our study finds that higher free float is associated with lower liquidity risk. The paper suggests that liquidity can be a significant channel through which free float may affect stocks' expected returns.

We investigate whether banks that receive a positive liquidity shock make up for the reduction in the loan supply by banks that suffer a negative liquidity shock. For identification, we use the exogenous shock to the Brazilian banking system caused by the international turmoil of 2008 that sparked a run on small and medium banks towards the systemically important banks. We find that a reduction in liquidity causes banks to strongly decrease their loan supply, whereas a positive liquidity shock has a small (if any) effect on the loan supply. Our findings are consistent with the theories that predict that borrowers face switching costs, and that agents tend to hold on to liquidity during periods of systemic uncertainty. In addition, we find that the shock causes small and medium companies to obtain less bank financing, compared to large firms, possibly because international and domestic capital markets dry out during the crisis. Our evidence suggests that the asymmetric effect of liquidity on loan supply derives mostly from the extensive, rather than the intensive margin. Nonetheless, because we do not identify the exact mechanism driving bank behavior, we cannot predict under which conditions we would find a similar effect should a new shock occur

Treasury bills and other near-money assets provide owners with liquidity service benefits that are reflected in prices in the form of a liquidity premium. I relate time variation in this liquidity premium to changes in the opportunity cost of money: The liquidity service benefits of near-money assets are more valuable when short-term interest rates are high and hence the opportunity cost of holding money is high. Consistent with this prediction, the liquidity premium of T-bills and other near-money assets is strongly positively correlated with the level of short-term interest rates. Once short-term interest rates are controlled for, Treasury security supply variables lose their explanatory power for the liquidity premium. I argue that an analysis of scarcity and price of near-money assets is incomplete without taking into account the substitution relationship with money and its supply by the central bank. Payment of interest on reserves (IOR) could potentially reduce liquidity premia because IOR reduces the opportunity cost of at least one type of money (reserves). In the UK and Canada, however, the introduction of IOR did not shrink liquidity premia. Apparently, the reduction in banks' opportunity cost of money did not result in a broader fall in the opportunity costs of money for non-bank market participants.

This study investigates the impact of monetary policy on liquidity of Vietnam’s stock market from September 2007 to November 2014. Time series of liquidity are determined by monthly liquidity data for 643 enterprises in the surveyed period. Two variables of the monetary policy, including growth in money supply and interbank rate, are employed in VAR model along with four different measures of market liquidity. The results show that unexpected variance in the two monetary policy variables has no significant impact on the market liquidity, which, in turn, may be improved by the positive shocks of market returns, inflation, and growth in industrial production. Market variance does produce certain effects, but discrepancies occur in the signs of various liquidity measures.

In this article, we consider how different dimensions of liquidity have been measured in financial markets and for various forms of real estate investment. The purpose of this exercise is to establ...

The paper studies liquidity management in the banking sector at the zero lower bound implemented by central banks. The new era of monetary policy with interest rates at zero and quantitative easing programs raise questions about the effectiveness of central banking policy and their impact on the banking sector. I find that the zero lower bound reduces liquidity reserves of banks and thus creates less credit supply. The T-LTRO program, developed by the European Central Bank, has helped to tackle this problem. However, the recently expanded asset purchase program reveals the opposite effect. Hence, the recent liquidity provisions by central banks have put incentives rather on de-leveraging than bank lending.

We provide empirical evidence of a novel liquidity-based transmission mechanism through which monetary policy influences asset markets, develop a model of this mechanism, and assess the ability of the quantitative theory to match the evidence. (JEL E44, E52, G12, G14, G35)

We analyze the impact of non-compliance with a requirement similar to the Basel III Liquidity Coverage Ratio and its impact on bank intermediation applying Regression Discontinuity Designs. Using a unique dataset on Dutch banks, we show that non-compliance with a liquidity requirement causes banks to pay and charge higher interest rates as well as to increase borrowing and decrease lending on the long-term interbank market. Apart from lending rates, the short-term market is unlikely to be affected by the requirement. While non-compliance with a liquidity requirement does not seem to directly affect corporate lending rates, we find evidence that institutions with a liquidity deficiency turn to the long-term interbank rate as reference for lending to non-financial institutions.

In 2008 the European Central Bank added a new quantitative policy strategy to its traditional control of the interest rates. This new policy, sometimes called “enhanced credit support”, consists of fully satisfying the demand for liquidity of banks, with the European Central Bank deciding only the timing and characteristics of its interventions. This study analyses the market conditions in which these measures have been taken and their consistency with the demand for liquidity by the banking system. Measures in favour of the sovereign debt of PIIGS countries are also considered.

We investigate the determinants of the time variation of the common component of FX market liquidity across developed and emerging market currencies. We study the impact of funding liquidity constraints, which proxy for supply considerations, and capital flows, which proxy for demand considerations of liquidity on transaction costs. Our results show that (i) funding liquidity constraints measured by the availability of outstanding repos reduce FX market liquidity, and their impact is stronger when they are associated with an increase in the costs of funding and a shortening of their maturity; (ii) increasing capital flows at the global level increase liquidity; (iii) both of these effects were stronger during the recent financial crisis, when liquidity dry-ups were severe; and (iv) the analysis of individual currencies with diverse riskiness confirms that a shock to speculator capital would lead to a reduction in market liquidity through a spiral effect that is stronger for more volatile currencies. Furthermore, we find a similar effect related to capital flows.

The recent financial crisis was the deepest recession of the post-war era. The recession began with an abrupt collapse in many asset markets. A common view is that this collapse followed a surge in uncertainty about the quality of collateral assets. The consequent shortfall in liquidity may have spread to the real economy because liquidity is essential to finance payroll and investment. This paper presents a theory where liquidity-driven recessions follow from surges in the dispersion of collateral quality. I use this theory to quantify the potential damage to the real economy caused by this class of dispersion shocks. The theory builds on the interaction of two financial frictions: limited enforcement and asymmetric information. Limited contract enforcement prevents transactions if future payments cannot be guaranteed. This constraint can be relaxed if an agent does not promise future payments, but instead makes payments immediately with liquid assets. However, agents hold capital that is illiquid unless it is sold or used as collateral. Asymmetric information about the quality of capital translates into a cost to obtain liquidity. The paper characterizes the decision to obtain liquidity under asymmetric information in order to relax enforcement constraints through a marginal condition.

The availability of liquidity matters for an economy’s production and trade as firms need working capital to finance their operations. This paper studies the interaction between trade and capital flows operating through the liquidity allocations in the financial markets using a small-open-economy, overlapping-generations model. Working capital requirements distort the intratemporal consumption allocations. International capital inflows help easing liquidity in the domestic credit market, facilitating trade and improving the intratemporal allocation, while distorting the intertemporal allocation of the economy. We show how the government can use the Friedman rule and differentiated consumption taxes to address the tradeoff between the intratemporal and intertemporal distortions and achieve the second best optimum. Imposing a higher tax rate on imports can reduce the international borrowing to imports ratio and enhance the efficiency in using capital inflows to facilitate trade flows.

This paper explores global dynamics in a monetary model with limited asset market participation and the zero lower bound on nominal interest rates. It is shown that a rise in government transfers to ‘non-Ricardian’ consumers financed by debt-based taxes to ‘Ricardian’ consumers is capable of escaping disinflationary paths typically convergent to a liquidity trap. Fiscal policy does not need to be unsustainable at the low inflation steady state to avoid liquidity traps, as argued in the context of the standard single representative agent setup.

International audience; This paper estimates a nonlinear Threshold-VAR to investigate if a Keynesian liquidity trap due to a speculative motive was in place in the U.S. Great Depression and the recent Great Recession. We find clear evidence in favor of a breakdown of the liquidity effect after an unexpected increase in M2 in the 1921–1940 period. This evidence, which is consistent with the Keynesian view on a liquidity trap, is shown to be state contingent. In particular, it emerges only when a speculative regime identified by high realizations of the Dow Jones index is considered. A standard linear framework is shown to be ill-suited to test the hypothesis of a Keynesian liquidity trap. An investigation performed with the same data for the period 1991–2010 confirms the presence of a liquidity trap just in the speculative regime. This last result emerges significantly only when we consider the federal funds rate as the policy instrument and we model the Divisia M2 measure of liquidity.

Jean Tirole y Bengt Holmström publicaron Inside and Outside Liquidity (mit Press, 2011). Con sus planteamientos se caracterizan los fundamentos conceptuales y de política económica en la gestión de liquidez, con aplicación en los mercados financieros. La acumulación preventiva de liquidez surge ante restricciones para pignorar los flujos de ingreso empresariales a favor de inversionistas. Ante tensiones de liquidez, las empresas emplean sus propios activos, inside liquidity, para conseguir efectivo; al ser estos insuficientes, el Gobierno actúa mediante bonos y medidas como ventana de redescuento del Banco Central, seguro de depósitos, ayudas de desempleo y otras formas de outside liquidity, que no provienen de la hoja de balance del sector privado. Los mercados financieros internacionales son otra fuente de liquidez, contra flujos pignoraticios del sector transable. Los autores dedican un epílogo a la crisis subprime, añadiendo la perspectiva de mala calidad de colateral en la evaporación de liquidez del mercado. Jean Tirole and Bengt Holmström have published Inside and Outside Liquidity (mit Press, 2011). With their proposal, the conceptual foundations for liquidity management and its associated economic policy are described, with applications in financial markets. The precautionary hoarding of liquidity takes place under restrictions to pledge the cash flow of the firm to investors. When liquidity shocks appear, firms can use their own assets, inside liquidity, to obtain cash; when they are not enough, government intervenes through bonds and measures such as the discount window, deposit insurance, unemployment benefits and other forms of outside liquidity, that are not originated in the balance sheet of the private sector. International financial markets are another source of liquidity, with recourse to the pledgeable inflows from international trade. The authors dedicate an epilogue to the subprime crisis, adding the perspective of the bad quality of the collateral as a cause of evaporation of liquidity.

The paper investigates the impact of global liquidity on house prices around the world using a novel proxy measured by the funding availability to global banks in the main financial centers. We find supporting evidence that global conditions from the financial centers are transmitted to local banks through bank flows. Focusing on the repo markets in the US, Europe, and the UK, over the period 2000-2014 and using a panel VAR, we find that liquidity shocks impact house prices in both emerging and advanced economies. However, countries’ exposure to liquidity shocks can be mitigated by monetary policy, and by various general and house market specific macroprudential policies. We document strikingly different effectiveness of these policies in advanced and emerging markets.

We examine the role of money when competitive banks face a systemic liquidity shock. Banks cannot provide a deposit contract contingent on the systemic liquidity shock, and introducing money into the economy allows banks to provide a nominal deposit contract that leads to state-contingent real consumption for depositors while resulting in over-competition among banks at the same time. Setting a minimum liquidity requirement can eliminate over-competition among banks, and so can an unconventional monetary policy that extracts liquidity from the banks with liquidity shock.

Investors’ liquidity needs may be an important reason why firms pay dividends. While intuitive, identification issues limit researchers’ ability to examine this hypothesis empirically. We overcome the identification concerns by using an exogenous shock to stock liquidity. We find that firms reduce dividend payments when stock liquidity increases. The reduction is greater for firms that experience a greater stock liquidity increase and/or firms whose shareholders have greater cash needs or rebalancing demands. Shareholders who exhibit large liquidity demands in the pre-event period are also more likely to sell shares after the stock liquidity increases.

We analyze a simple yet fully non-linear New Keynesian model of the liquidity trap. Productivity shocks are the only source of aggregate fluctuations and the central bank acts as a discretionary policy maker that pursues an inflation targeting strategy. We use this model to assess the effects of fiscal policy in a liquidity trap, the consequences of a commitment to change government expenditures in the future as well as the implications of lower taxes on labor and a higher inflation target. In contrast with some previous papers, we find that the effects of fiscal policy in a liquidity trap are moderate and that reductions in labor income taxes are expansionary. We do not find support for higher inflation targets.

The recent global financial crisis reignited concerns over systemic risk in the financial industry as a new type of systemic risk emerged – the severe loss of asset value due to illiquidity. The crisis has sparked a large body of research and has led to a number of new quantitative indicators of systemic risk. Despite the successful empirical results, the proposed indicators are primarily empirically motivated and are not capable of differentiating liquidity risk from other types of risk such as market and credit. In this paper, we develop a liquidity model to measure the risk caused by liquidity distress in the financial market. The model is parsimonious and has a semi-closed form to compute a discount due to a lack of liquidity. The liquidity discount measure may be applied to particular firms or may be aggregated into a liquidity index. A key feature of the model is its ability to distinguish between and compute the probability of liquidity default and economic default (insolvency). The model is applied to the study of liquidity in the financial sector leading to new empirical results. First, during the financial crisis, the probability of liquidity default (20%) was more than two times greater than the probability of economic default (8%). Second, standard measures of expected shortfall greatly underestimated shortfalls by 10% during the financial crisis by ignoring the loss of asset value due to illiquidity. Third, shocks to systematic liquidity risk are long lasting and can persist for as long as nine months depending on the financial subsector, and fourth, the level of bank interconnectedness peaks during periods immediately preceding crises creating the perfect environment for an unexpected liquidity shock to rapidly permeate the financial sector leading to a liquidity-induced crisis.

We endogenize the liquidity and the quality of private assets in a tractable incomplete-market model with heterogeneous agents. The model decomposes the convenience yield of government bond into a "liquidity premium" (flight to liquidity) and a "safety premium" (flight to quality) over the business cycle. When calibrated to match the U.S. aggregate output fluctuations and bond premiums, the model reveals that a sharp reduction in the quality, instead of the liquidity, of private assets was the culprit of the recent financial crisis, consistent with the perception that it was the subprime mortgage problem that triggered the Great Recession. Since the provision of public liquidity endogenously affects the provision of private liquidity, our model indicates that excessive injection of public liquidity during financial crisis can be welfare reducing under either conventional or unconventional policies. In particular, too much intervention for too long can depress capital investment.

Can creation of private money fulfill the liquidity needs of the economy? The answer is no if the market of private money is run only by forces of perfect competition. Multiple equilibria are possible: there exist good equilibria with complete satiation of liquidity and absence of default on private money, and bad equilibria characterized by shortage of liquidity and partial default. In this framework, capital requirements, distortions to the demand or supply of private money, and the role of public liquidity in substituting private liquidity or in offsetting liquidity crises are investigated.

Fleckenstein et al. (2014) document that nominal Treasuries trade at higher prices than inflation-swapped indexed bonds, which exactly replicate the nominal cash flows. We study whether this mispricing arises from liquidity premiums in inflation-indexed bonds (TIPS) and inflation swaps. Using US data, we show that the level of liquidity affects TIPS, whereas swap yields include a liquidity risk premium. We also allow for liquidity effects in nominal bonds. These results are based on a model with a systematic liquidity risk factor and asset-specific liquidity characteristics. We show that these liquidity (risk) premiums explain a substantial part of the TIPS underpricing.

This paper analyzes the liquidity of banks, both precautionary and involuntary liquidity. We apply dynamic panel estimation on individual bank data covering the period of Januari 2002 to November 2011. The result shows that precautionary liquidity is more determined by the operation of the bank. On the other hand, the involuntary liquidity is more affected by the financial system condition. Related to the size, the effect of the financial system condition and the macroeconomy is larger for the small banks. Moreover, the monetary policy in the form minimum reserve requirement affects the precautionary liquidity of the small banks; while the central bank rate is less influential to the bank liquidity. Keywords: Banking, Liquidity, General Method of MomentJEL classification: G21, G11, C33

We examine the dynamics and the drivers of market liquidity during the financial crisis, using a unique volume-weighted spread measure. According to the literature we find that market liquidity is impaired when stock markets decline, implying a positive relation between market and liquidity risk. Moreover, this relationship is the stronger the deeper one digs into the order book. Even more interestingly, this paper sheds further light on so far puzzling features of market liquidity: liquidity commonality and flight-to-quality. We show that liquidity commonality varies over time, increases during market downturns, peaks at major crisis events and becomes weaker the deeper we look into the limit order book. Consistent with recent theoretical models that argue for a spiral effect between the financial sector’s funding liquidity and an asset’s market liquidity, we find that funding liquidity tightness induces an increase in liquidity commonality which then leads to market-wide liquidity dry-ups. Therefore our findings corroborate the view that market liquidity can be a driving force for financial contagion. Finally, we show that there is a positive relationship between credit risk and liquidity risk, i.e., there is a spread between liquidity costs of high and low credit quality stocks, and that in times of increased market uncertainty the impact of credit risk on liquidity risk intensifies. This corroborates the existence of a flight-to-quality or flight-to-liquidity phenomenon also on the stock markets.

This paper develops a model of the public and private provision of liquidity and its relation to unemployment. We extend the Mortensen-Pissarides model of the labor market by adding an over-the-counter (OTC) market. Trades in the OTC market are collateralized with liquid assets, which are created through the financing of firms and by some public entity. As a result, the real interest rate is endogenous and depends on the financing needs of firms, the liquidity needs of OTC-traders, and the public supply of liquidity. We show that under some conditions the policymaker faces a trade-off between the provision of liquidity to the OTC market and the need to keep the cost of financing firms low. When the unemployment is inefficiently high, it is optimal to keep liquidity scarce, thereby reducing the total surplus of OTC-traders, to lower interest rates and promote job creations. We study the dynamics of the labor market under a liquidity shortage and we introduce heterogeneity across private assets in order to illustrate how a shock to liquidity demand can generate collateral expansion.

We show that, in a monetary equilibrium, trade and asset prices depend on both the supply of liquidity by the central bank and the liquidity of assets and commodities. Because money demand is a function of the liquidity of assets and commodities, monetary aggregates provide information on trade inefficiencies and are thus instructive for the conduct of monetary policy. We also show that assets that promise higher payoffs in liquidity constrained states in the future are relatively more expensive. This generates a term premium in the yield curve, even in absence of aggregate real uncertainty. The term premium is also higher than what would be calibrated in a representative agent model because monetary costs affect individual agents’ marginal utilities even if aggregate income is unaffected. Our results hold in any monetary economy with heterogeneous agents and short-term liquidity effects, where monetary costs act as transaction costs and the quantity theory of money is verified.

This paper uses a DSGE model to examine the eects of an expansion in government spending in a liquidity trap. The spending multiplier can be much larger than in the normal situation if the liquidity trap is very persistent, and …scal stimulus can be rapidly implemented. Moreover, the budgetary costs may be minimal as the large response of output boosts tax revenues, allowing for something close to a "…scal free lunch." However, we caution that the multiplier may be much smaller under plausible implementation lags for many types of public spending,and/or if the liquidity trap lasts less than two years. In addition, because the marginal impact of …scal expansion decreases in the scale of the outlay, it is crucial to distinguish between average and marginal multipliers.

Many banks are under regulatory pressure from Basel III to improve liquidity by investing in more short-term, low-risk securities and to fund assets by more long-term, stable sources of debt. The relationship between short-term and long-term interest rates is known as the term structure of interest rates long evaluated by financial economists. This article empirically demonstrates the importance of a liquidity premium and a credit risk premium within the term structure and notes the financial consequence of these incremental costs on banks trying to enhance their liquidity coverage ratio or their net stable funding ratio. Liquidity has a cost that will reduce bank profits via a lower net interest spread. If bank liquidity is sufficient to withstand subsequent periods of market stress, the regulatory plan will reduce public expenditures often associated with bank failure.

We develop a nonlinear dynamic general equilibrium model with a banking sector and use it to study the macroeconomic impact of introducing a minimum liquidity standard for banks on top of existing capital adequacy requirements. The model generates a distribution of bank sizes arising from differences in banks' ability to generate revenue from loans and from occasionally binding capital and liquidity constraints. Under our baseline calibration, imposing a liquidity requirement would lead to a steady-state decrease of about 3 percent in the amount of loans made, an increase in banks' holdings of securities of at least 6 percent, a fall in the interest rate on securities of a few basis points, and a decline in output of about 0.3 percent. Our results are sensitive to the supply of safe assets: the larger the supply of such securities, the smaller the macroeconomic impact of introducing a minimum liquidity standard for banks, all else being equal. Finally, we show that relaxing the liquidity requirement under a situation of financial stress dampens the response of output to aggregate shocks.

The importance of liquidity has been acknowledged for a long time now. Liquidity is defined as the ease with which an asset can be converted into cash. A considerable number of studies investigated stock liquidity providing evidence that more illiquid stocks yield higher returns which include an illiquidity premium. According to Amihuda and Mendelson (1986b: 43–48), a required rate of return on the shares (gross, i.e. after taking into account the cost of liquidity) should increase with increasing liquidity, but the marginal increase should decrease with an increasing investment horizon, thus decreasing the likelihood of premature termination of the investment. As a result, investors with different investment horizons may require different rates of return per unit of time from the same shares (Huang 2003: 104–129). Investor horizon is the time period for which an investor holds a stock. Most of the research conducted on investment horizon links it to liquidity, supporting the thesis that it is negatively related to liquidity. “Transaction costs and the holding periods for common stocks” written by Atkins and Dyl (1997: 309–325) is one of the first papers to investigate the effects of liquidity on holding period. The aim of this study is to show the dependencies occurring between the phenomena of investment horizon and asymmetric information and the liquidity of shares of a company. Przez płynność aktywów na rynku finansowym rozumiane są zazwyczaj: koszt oraz łatwość, z jaką poszczególne rodzaje aktywów mogą być zamienione na środki pieniężne, czyli mówiąc najprościej sprzedane po cenie aktualnie dostępnej na rynku. W literaturze przedmiotu można znaleźć wiele badań, które potwierdziły, że płynność wywiera istotny wpływ na ceny akcji i ich stopy zwrotu.Każdy inwestor ma swoje preferencje dotyczące okresu, na jaki chce zainwestować posiadane nadwyżki gotówki. Według Amihuda i Mendelsona wymagana stopa zwrotu z akcji (po uwzględnieniu kosztów związanych z płynnością) powinna wzrastać wraz ze wzrostem płynności danej akcji, jednak krańcowy przyrost winien zmniejszać się wraz z wydłużaniem horyzontu czasowego inwestycji oraz zmniejszaniem prawdopodobieństwa przedterminowego zakończenia inwestycji. W rezultacie inwestorzy o różnych horyzontach czasowych inwestycji wymagać mogą różnej stopy zwrotu na jednostkę czasu od tych samych akcji. Horyzont czasowy inwestycji jest okresem, w którym inwestor posiada akcji. Większość badań przeprowadzonych z uwzględnieniem horyzontu czasowego inwestycji łączy go z płynnością danego papieru wartościowego w taki sposób, że horyzont czasowy inwestycji jest ujemnie powiązany z płynnością. Atkins i Dyl są jednymi z pierwszych, którzy zbadali wpływ płynności na okres inwestowania. Celem przedmiotowego badania jest pokazanie zależności zachodzącej pomiędzy horyzontem czasowym a płynnością akcji danej spółki.

The 'International Policy Trilemma' refers to the constraint on independent monetary policy that is forced on a country which remains open to international financial markets and simultaneously pursues an exchange rate target. This paper shows that, in a global economy with open financial markets, the problem of the zero bound introduces a new dimension to the international policy trilemma. International financial market openness may render monetary policy ineffective, even within a system of fully flexible exchange rates, because shocks that lead to a 'liquidity trap' in one country are propagated through financial markets to other countries. But monetary policy effectiveness may be restored by the imposition of capital controls, which inhibit the transmission of these shocks across countries. We derive an optimal monetary policy response to a global liquidity trap in the presence of capital controls. We further show that, even though capital controls may facilitate effective monetary policy, except in the case where monetary policy is further constrained (beyond the zero lower bound constraint), capital controls are not desirable in welfare terms.

A liquidity trap is no longer a mere theoretical curiosity after Japan’s economic slump in the early 1990s and the recent global recession triggered by economic depression in the United States in 2007. Several non-standard policy alternatives have been prescribed to combat a liquidity trap. One of them is the conditional policy commitment that keeps nominal interest rate near zero depending on the state of the economy. Such a credible commitment is expected to stimulate the economy by raising asset prices. Using the principle of adaptive learning, this article analyzes the impact of a conditional policy commitment on a liquidity trap, which keeps nominal interest rate near zero when the inflation rate is below a unique threshold level. I would show that a conditional policy commitment like this eliminates a liquidity trap and the associated deflationary spiral by anchoring inflationary expectations. As a result, the targeted equilibrium becomes globally stable. JEL Classification: E63, E52, E58

The liquidity effect of money supply increases, as policy-oriented measures, would generally lead to a decline in interest rates. This is the direct effect. However, such money supply increases lead to a sum of the direct effect plus the positive indirect price and income effects. In sum, the net effect may be positive leading to a net increase and not a decrease in the interest rate. The regular money demand function is suitably modified to capture the structural changes of the Indian economy to verify the net effect of monetary policy-induced money supply movements. The empirical evidence indicates the presence of a perverse liquidity effect.