But, during the crisis, we have moved to a system in which the central bank is de facto the “market intermediary” of last – and sometimes – first resort. This has further weakened banks’ incentives to trade liquidity in the market. Do we need them to trade in the very shortterm market in the first place?
Well, this is a fundamental issue for optimal mechanism design. It is not entirely clear whether an interbank market is strictly needed from a welfare perspective. The key function of markets is price discovery.