Commercial Banks' Liquidity Level Management

In this essay we focus on liquidity, which plays the key role in commercial bank management. Liquidity of a bank is the ability to use liquid funds within the acceptable time and costs. The use of liquidity includes repayments of debts and portfolio investment, while the source of liquidity includes reserve funds, liquidation of assets, and liability borrows. Liquidity risk comes up with the time mismatch of the above items.We divide bank's liquidity problem into three levels. First, banks must hold enough funds to turn over in daily operations. Second, liquidity crises arise not because of the bank's own problems. For example, some other bank's collapse induces that. Third, a bank's own problem in its business, which impair the earnings and credits of its own, results in a liquidity crises. For the third level, we need to discuss bank's management in other aspects, such as loan risk management, which is not the main topic here. For the second level, we must explore the connections between liquidity risk and banking system. And the first level's liquidity management is most important for each individual bank. So we point out that liquidity management must contain two levels, just corresponding to the first and second level above.The ordinary liquidity management only considers the first level, but the banking system itself determines liquidity crisis is an endogenous problem, which can not be resolved by the management in the first level.Moreover, we precisely clarified two kinds of liquidity in banking activities. On one hand, the immediacy demand by depositors inevitably brings out the mismatch of assets' and liabilities' terms, commercial banks creates liquidity here with term transforming. On the other hand, information asymmetry brings out averse selection in transaction, then a wider spread is needed for the transaction of illiquid assets.The framework of Diamond-Dybvig [1983] explained bank's liquidity service under the first definition. The conclusion is that while banks are playing an effective and un-substitutable role in liquidity creation, multi-equilibrium is the inevitable result, including bank runs. Runs are harmful because they interrupt the real production process.To the second definition of liquidity, we analyze the behavior of intermediary, depositors and borrowers with game theory. Our result is that the original fund supplier formed specific reclaim skill (in fact it is information advantage), which...