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The Nobel Prize for Economics 2022 has been awarded to Ben Bernanke, Douglas Diamond and Philip Dybvig. Their work significantly improved the world’s understanding of the role of banks in the economy, particularly during financial crises.
An important finding in their research is why avoiding bank collapses is vital, a statement by the official website of the Novel Prize said.
The statement noted:
For the economy to function, savings must be channelled to investments. However, there is a conflict here: savers want instant access to their money in case of unexpected outlays, while businesses and homeowners need to know they will not be forced to repay their loans prematurely.
Diamond and Dybvig offered a solution to this tangle. Banks, by acting as intermediaries that accept deposits from many savers, can allow depositors to access their money when they wish, while also offering long-term loans to borrowers.
Their analysis also showed how the combination of these two activities makes banks vulnerable to rumours about their imminent collapse.
“If a large number of savers simultaneously run to the bank to withdraw their money, the rumour may become a self-fulfilling prophecy — a bank run occurs and the bank collapses,” the statement said.
Such a scenario can be prevented if the government provides deposit insurance and acts as a lender of last resort to banks.
Diamond also showed how banks, as intermediaries between many savers and borrowers, are better suited to assessing borrowers’ creditworthiness and ensuring that loans are used for good investments.
Ben Bernanke analysed the Great Depression of the 1930s, the worst economic crisis in modern history. Among other things, he showed how bank runs were a decisive factor in the crisis becoming so deep and prolonged.
When the banks collapsed, valuable information about borrowers was lost and could not be recreated quickly. Society’s ability to channel savings to productive investments was thus severely diminished.
“The laureates’ insights have improved our ability to avoid both serious crises and expensive bailouts,” Tore Ellingsen, chair of the Committee for the Prize in Economic Sciences, was quoted as saying.