Interbank markets are among the most important in the financial system. They allow liquidity to be readily transferred from banks with a surplus to banks with a deficit. They are the focus of central banks’ implementation of monetary policy and have a significant effect on the whole economy. Under normal circumstances the interbank markets, especially the short term ones, work rather well. On occasion, however, such as in the crisis that started in the summer of 2007, interbank markets stop functioning well inducing central banks to intervene massively in order to try to restore normal conditions.
Despite their apparent importance, interbank markets have received relatively little attention in the academic literature. The purpose of this paper is to develop a simple theoretical framework for analyzing interbank markets and how the central bank should intervene. Our analysis is based on a standard banking model developed in Allen and Gale (2004a, 2004b) and Allen and Carletti (2006, 2008). There are two periods in the usual way. Banks can hold one-period liquid assets or two-period long term assets with a higher return. All assets are risk free in the sense that their promised payoffs are always paid. Banks face uncertain liquidity demands from their customers at the end of the first period. We distinguish between two types of uncertainty concerning banks’ liquidity needs. The first is idiosyncratic uncertainty that arises from the fact that for any given level of aggregate demand for liquidity there is uncertainty about which banks will face the demand. The basic role of interbank markets is to allow reallocations of liquidity from banks with an excess to banks with a deficit. The second is the aggregate uncertainty that is due to the fact that the overall level of the demand for liquidity that banks face is stochastic.
Over the past ten years, private equity and venture capital have played an increasingly important role in the European economy. Investments by European private equity and venture capital funds have increased by more than six times from €5.5bn in 1995 to a record of €36.9bn in 2004. Correspondingly, the number of companies receiving private equity or venture capital was 5,000 in 1995 and has increased to 7,000 in 2004.
In 2004, two thirds of the €36.9bn invested by European private equity and venture capital players was invested in companies at the buyout stage (€26.6bn), with the remaining €10.3bn invested in companies in the venture stage. As companies at the buyout stage are more mature, the average investment size is normally larger.
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