The Great Liquidity Freeze: What Does It Mean for International Banking?

Dietrich Domanski and Philip Turner
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Dietrich Domanski: Asian Development Bank Institute (ADBI)

Finance Working Papers from East Asian Bureau of Economic Research

Abstract: In mid-September 2008, following the bankruptcy of Lehman Brothers, international interbank markets froze and interbank lending beyond very short maturities virtually evaporated. Despite massive central bank support operations and purchases of key assets, many financial markets remained impaired for a long time. Why was this funding crisis so much worse than other past major bank failures and why has it proved so hard to cure? This paper suggests that much of that answer lies in the balance sheets of international banks and their customers. It outlines the basic building blocks of liquidity management for a bank that operates in many currencies and then discusses how the massive development of foreign exchange (forex) and interest rate derivatives markets transformed banks’ strategies in this area. It explains how the pervasive interconnectedness between major banks and markets magnified contagion effects. Finally, the paper provides some recommendations for how strategic borrowing choices by international banks could make them more stable and how regulators could assist in this process.

Keywords: liquidity freeze; international banking; liquidity management; derivatives markets (search for similar items in EconPapers)
JEL-codes: E44 G01 G15 G18 G24 G28 (search for similar items in EconPapers)
Date: 2011-06
New Economics Papers: this item is included in nep-ban and nep-mac
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Citations: View citations in EconPapers (2)

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Related works:
Working Paper: The Great Liquidity Freeze: What Does It Mean for International Banking? (2011)
Working Paper: The Great Liquidity Freeze: What Does It Mean for International Banking? (2011)
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