Wholesale Funding, Bank Runs And Liquidity Freezes

Wholesale Funding, Bank Runs and Liquidity Freezes In the 2007/8 Financial Crisis Name Course Tutor University City/State Date Wholesale Funding, Bank Runs and Liquidity Freezes In the 2007/8 Financial Crisis Introduction Banks make loans which are not quickly sold at high price. The demand deposits by Banks issue allow their depositors to make withdraws at their convenience. Therefore a liquidity mismatch exists between a bank’s liabilities which are more liquid compared to the bank’s assets. It leads to a problem in case a large number of depositors decide to withdraw at the same time. Such a situation is called a bank run. To prevent bank runs there are policies by the banks to stop runs, while the government provides deposit insurance for prevention of bank runs. The canonical model of depositor runs by Diamond and Dybvig (1983) provides an explanation as to why banks issue deposits which have greater liquidity than the bank’s assets and also explain why banks are prone to depositor runs (Diamond, Dybvig, 1983). This model focuses on bank runs along other financial crises and the mechanisms to prevent such financial crises. This paper discusses how traditional bank runs is different from runs in the 2008 financial crisis and the innovation of wholesale funding. Bank runs Diamond and Dybvig (1983) provide that the main function of banks is the creation of liquidity. 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