Do banks differently set their liquidity ratios based on their network characteristics?

Summary This paper investigates the impact of interbank network topology on bank liquidity ratios. Whereas more emphasis has been put on liquidity requirements by regulators since the global financial crisis of 2007-2008, how differently shaped interbank networks impact individual bank liquidity behavior remains an open issue. We look at how bank interconnectedness within interbank loan and deposit networks affects their decision to hold more or less liquidity during normal times and distress times and depending on the overall size of the banking sector. Our sample consists of commercial, investment, real estate and mortgage banks established in 28 European countries. We conduct instrumental variable estimations to examine the relationship between interbank network topology and bank liquidity. Our results show that taking into account the way that banks are linked to each other within a network adds value to traditional liquidity models. Our findings have critical implications with regards to the implementation of Basel III liquidity requirements and bank supervision more generally.