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Illiquidity in the Interbank Payment System Following Wide-Scale Disruptions




  • The paper was written while Morten Bech was working at the Federal Reserve Bank of New York. We thank Wilko Bolt, Paula Hernandez, Thomas Tröger, Alan Sheppard, Rafael Repullo, Ned Prescott, two anonymous referees, and participants at the New Directions for Understanding Systemic Risk conference cosponsored by the National Academy of Sciences and the Federal Reserve Bank of New York, the Fourth Joint Central Bank Conference on Risk Measurement and Systemic Risk hosted by the European Central Bank, the Modern Financial Institutions, Financial Markets and Systemic Risk conference at the Federal Reserve Bank of Atlanta, as well as seminar participants at New York University, Concordia University, the Bank of England, De Nederlandsche Bank, and Danmarks Nationalbank for helpful comments. The views expressed in this paper are those of the authors and do not necessarily reflect those of the Federal Reserve Bank of New York, the Federal Reserve System, or the Bank for International Settlements.

  • Morten L. Bechis at the Bank for International Settlements ( Rodney J. Garrattis at the University of California, Santa Barbara (


We show how the interbank payment system can become illiquid following wide-scale disruptions. Two forces are at play in such disruptions—operational problems and changes in participants’ behavior. If the disruption is large enough, hits a key geographic area, or hits a “too-big-to-fail” participant, then the smooth processing of payments can break down, and central bank intervention might be required to reestablish the socially efficient equilibrium. The paper provides a theoretical framework to analyze the effects of events such as the September 11 attack. In addition, the model can be reinterpreted to analyze shocks to fundamentals that affect the parameters of the intraday liquidity management game. We demonstrate this by showing how processing behavior changed in response to heightened credit risk at the time of the Lehman Brothers failure.

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