Dynamics in the Interbank Market

This paper builds a model of interbank market with heterogeneous agents and search friction. Banks holding different amount of liquidity receive aggregate liquidity shock and trade liquidity in bilateral meeting. We prove the uniqueness of the stationary equilibrium and analyze the convergence path to the limit liquidity distribution. We find that with heterogeneous banks, the estimated trading volume is lower than that with a representative agent. Accessibility to the central bank standing facility will reduce the loss in efficiency. The dynamics can be obtained either with Krusell-Smith Algorithm or with linear approximation around the stationary distribution.