Discussion paper
DP20202 Pitfalls and Optimal Design of Emergency Liquidity Assistance
This paper examines the unintended consequences of Emergency Liquidity Assistance (ELA) in preventing bank runs. It shows that late ELA interventions, even when generous, can fail to restore confidence and may instead trigger withdrawals. The key mechanism is a redistribution of repayment burdens from early withdrawers to remaining depositors, which undermines ex-ante incentives to stay. Without credible deposit insurance, this financing structure can make ELA destabilizing rather than stabilizing. The findings highlight that poorly designed interventions may backfire, suggesting that timing and fiscal backing are crucial to the effectiveness of lender-of-last-resort policies.
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