Money, financial stability and efficiency

Franklin Allen, Elena Carletti, Douglas Gale

    Research output: Contribution to journalArticle

    Abstract

    Most analyses of banking crises assume that banks use real contracts but in practice contracts are nominal. We consider a standard banking model with aggregate return risk, aggregate liquidity risk and idiosyncratic liquidity shocks. With non-contingent nominal deposit contracts, a decentralized banking system can achieve the first-best efficient allocation if the central bank accommodates the demands of the private sector for fiat money. Price level variations allow full sharing of aggregate risks. An interbank market allows the sharing of idiosyncratic liquidity risk. In contrast, idiosyncratic (bank-specific) return risks cannot be shared using monetary policy alone as real transfers are needed.

    Original languageEnglish (US)
    Pages (from-to)100-127
    Number of pages28
    JournalJournal of Economic Theory
    Volume149
    Issue number1
    DOIs
    StatePublished - Jan 2014

    Fingerprint

    Financial efficiency
    Financial stability
    Risk-return
    Liquidity risk
    Liquidity shocks
    Banking system
    Interbank market
    Private sector
    Fiat money
    Banking
    Central bank
    Efficient allocation
    Banking crisis
    Monetary policy
    Deposit contracts
    Price level

    Keywords

    • Central bank
    • Commercial banks
    • Risk sharing

    ASJC Scopus subject areas

    • Economics and Econometrics

    Cite this

    Money, financial stability and efficiency. / Allen, Franklin; Carletti, Elena; Gale, Douglas.

    In: Journal of Economic Theory, Vol. 149, No. 1, 01.2014, p. 100-127.

    Research output: Contribution to journalArticle

    Allen, F, Carletti, E & Gale, D 2014, 'Money, financial stability and efficiency', Journal of Economic Theory, vol. 149, no. 1, pp. 100-127. https://doi.org/10.1016/j.jet.2013.02.002
    Allen, Franklin ; Carletti, Elena ; Gale, Douglas. / Money, financial stability and efficiency. In: Journal of Economic Theory. 2014 ; Vol. 149, No. 1. pp. 100-127.
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