Cornelia Holthausen

Liquidity hoarding and interbank market rates: The role of counterparty risk

We develop a model of interbank lending and borrowing with counterparty risk. The model has two key ingredients. First, liquidity in the banking sector is endogenous, so there is an opportunity cost of holding liquid assets. Second, banks are privately informed about the risk of their long-term assets, which can lead to adverse selection and high interest rates in the interbank market. We identify a novel form of a market break-down, which can lead to liquidity hoarding. It arises because adverse selection in the interbank market changes the opportunity cost of holding liquidity. We use the model to shed light on developments in interbank markets prior to and during the 2007–09 financial crisis, as well as the effectiveness of policy interventions aimed at restoring interbank market activity.

Efficient Pricing of Large Value Interbank Payment Systems

This paper studies the pricing of large-value payment systems and its influence on the way commercial banks route their payments. It is shown that the optimal pricing scheme for a public monopoly system involves quantity discounts in the form of a decreasing marginal fee. This is also true when the public system competes with a private system characterized by a lower marginal cost. However in this case, optimal marginal fees in the public system are lower than its marginal cost, and fixed fees have to be levied. We show that if the Central Bank wants the public system to be used by a significant proportion of the banks, this may be incompatible with full cost recovery. We also study the case of competition between several public systems. The structure of the optimal tariff depends on the willingness of Central Banks to allow by-pass.