The article “Banks Funding, Leverage, and Investment” written by Professor Barattieri, together with Laura Quadrini (ECB and Central Bank of Ireland) and Vincenzo Quadrini (University of Southern California and CEPR) has been published in the Journal of Financial Economics.
In this paper, the authors show that banks’ funding sources have changed significantly during the last two decades. In particular, the share of non-core funding (NCF), a measure of interconnectedness among banks, was high before the 2008 crisis but declined substantially after the crisis. The authors then propose a general equilibrium model where such interconnectedness provides insurance against idiosyncratic risks faced by banks. Insurance makes leverage and investment more attractive, but it also increases the vulnerability of the overall banking sector to crises. The authors show that a mechanism where agents learn over time about the likelihood of a crisis, could have been important for generating the observed dynamics of NCF and leverage in the US financial sector in the period 1999-2013. Moreover, the dynamics of NCF and leverage are shown to be important determinants of the dynamics of the macroeconomic variables.