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Inside and Outside Liquidity$
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Bengt Holmstrom and Jean Tirole

Print publication date: 2011

Print ISBN-13: 9780262015783

Published to MIT Press Scholarship Online: August 2013

DOI: 10.7551/mitpress/9780262015783.001.0001

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Financial Muscle and Overhoarding of Liquidity

Financial Muscle and Overhoarding of Liquidity

(p.169) 7 Financial Muscle and Overhoarding of Liquidity
Inside and Outside Liquidity

Holmström Bengt

Tirole Jean

The MIT Press

The chapter examines the reasons why firms may hoard too much liquidity. It stresses two points: firstly, the financial capability of the potential buyers increases the value of distressed assets, contributing to liquidity at a point called date one; secondly, uncoordinated purchases of short-term assets at a point called date zero can lead to excessive hoarding of liquidity. During a subprime crisis, banks kept large amounts of excess reserves at the central bank. This is in accordance with a strategy of strengthening their position to profit from fire sales of distressed assets. The chapter then examines a situation that can lead to a waste of liquidity due to a lack of coordination and government remedies that use two instruments: liquidity regulation and public provision of liquidity.

Keywords:   liquidity, hoarding, liquidity regulation, public provision of liquidity, assets

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