Liquidity Transformation and Fragility in the US Banking Sector
A key role of banks is liquidity transformation, which is also thought to create fragility, as uninsured depositors face an incentive to withdraw money before others (a so-called panic run). Despite much theoretical work, there has not been much empirical evidence establishing this mechanism. In this paper, we provide the first large-scale evidence of this mechanism. Banks that perform more liquidity transformation exhibit higher fragility, manifested by stronger sensitivities of uninsured deposit flows to bank performance and greater levels of uninsured deposit outflows when performance is poor. We also explore the effects of deposit insurance and systemic risk.
Published Versions
forthcoming in the Journal of Finance
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