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Working Paper
Banking Panics and Output Dynamics
This paper develops a dynamic general equilibrium model with an essential role for an illiquid banking system to investigate output dynamics in the event of a banking crisis. In particular, it considers the ex-post efficient policy response to a banking crisis as part of the dynamic equilibrium analysis. It is shown that the trajectory of real output following a panic episode crucially depends on the cost of converting long-term assets into liquid funds. For small values of the liquidation cost, the recession associated with a banking panic is protracted as a result of the premature ...
Working Paper
Banking crises and the role of bank coalitions
The goal of this paper is to provide a framework to analyze the effectiveness of bank coalition formation in response to an external aggregate shock that may cause disruption to the payment mechanism and real economic activity. I show that the kind of insurance mechanism provided by a specific type of bank coalition allows society to completely prevent any disruption to real activity that can be caused by a temporary drop in the value of banking assets, at least in the case of a shock that is not too big. If the shock is relatively large, then a private bank coalition will be unable to ...
Working Paper
Pairwise credit and the initial cost of lending
The author studies the terms of credit in a competitive market in which sellers are willing to repeatedly finance the purchases of buyers by extending direct credit. Lenders (sellers) can commit to deliver any long-term credit contract that does not result in a payoff that is lower than that associated with autarky, while borrowers (buyers) cannot commit to any contract. A borrower's ability to repay a loan is privately observable. As a result, the terms of credit within an enduring relationship change over time, according to the history of trades. Two borrowers are treated differently by the ...
Working Paper
A dynamic model of unsecured credit
The author studies the terms of credit in a competitive market in which sellers (lenders) are willing to repeatedly finance the purchases of buyers (borrowers) by engaging in a credit relationship. The key frictions are: (i) the lender is unable to observe the borrower's ability to repay a loan; (ii) the borrower cannot commit to any long-term contract; (iii) it is costly for the lender to contact a borrower and to walk away from a contract; and (iv) transactions within each credit relationship are not publicly observable. The lender's optimal contract has two key properties: delayed ...
Working Paper
Optimal monetary policy in a model of money and credit
The authors investigate the extent to which monetary policy can enhance the functioning of the private credit system. Specifically, they characterize the optimal return on money in the presence of credit arrangements. There is a dual role for credit: It allows buyers to trade without fiat money and also permits them to borrow against future income. However, not all traders have access to credit. As a result, there is a social role for fiat money because it allows agents to self-insure against the risk of not being able to use credit in some transactions. The authors consider a (nonlinear) ...
Working Paper
Banking panics and protracted recessions
This paper develops a dynamic theory of money and banking that explains why banks need to hold an illiquid portfolio to provide socially optimal transaction and liquidity services, opening the door to the possibility of equilibrium banking panics. Following a widespread liquidation of banking assets in the event of a panic, the banking portfolio consistent with the optimal provision of transaction and liquidity services during normal times cannot be quickly reestablished, resulting in an unusual loss of wealth for all depositors. This negative wealth effect stemming from the liquid portion of ...
Journal Article
The Free-Banking Era: A Lesson for Today?
Reaching back to a volatile era in U.S. banking history, Daniel Sanches finds insight for today?s challenge of ensuring a stable banking system ? though perhaps not the lesson one might expect.
Journal Article
Central Bank Digital Currency: Is It a Good Idea?
A CBDC might make banking easier for you and me. It might also change how banks operate.
Journal Article
Shadow banking and the crisis of 2007-08
In recent decades, institutions that function much like traditional banks have grown outside regulatory oversight. Yet, as Daniel Sanches explains, these so-called shadow banks are as vulnerable to runs as regular banks. Because banking crises can inflict lasting economic harm, economists are interested in tracing how the panic ensued in the shadow system.
Working Paper
Private money and banking regulation
We show that a competitive banking system is inconsistent with an optimum quantity of private money. Because bankers cannot commit to their promises and the composition of their assets is not publicly observable, a positive franchise value is required to induce the full convertibility of bank liabilities. Under perfect competition, a positive franchise value can be obtained only if the return on bank liabilities is sufficiently low, which imposes a cost on those who hold these liabilities for transaction purposes. If the banking system is monopolistic, then an efficient allocation is ...