In this paper, I describe and analyze a pure exchange overlapping generations model in which endowments and the dividends of an asset in fixed supply are exogenous and random; they follow a finite state Markov prncess. It is shown (i) that a stationary equilibrium exists and (ii) that no stationary allocation is Pareto superior to any stationary equilibrium allocation, where Pareto superiority is defined in terms of the conditional expected utilities agents maximize in the competitive setting. The main contribution of the paper is the optimality proof.

We construct a model to clarify the mechanism by which the lender of last resort (LLR) can prevent bank runs. In our model, a bank has both the function of facilitating payments in which inside money is settled using outside money and the function of financial intermediation using a deposit contract. The deposit contract might lead to a bank run, and might even contribute to an efficient allocation. Therefore, to consider the liquidity supply by the LLR, we introduce the deposit contract as a factor of instability in the banking model. We show that the LLR can assist in the recovery of both the efficiency and stability of the financial system. JEL Classification Numbers: E52, E58.

We have constructed a model of bank failure with monetary assets (bonds), adopting the overlapping-generations model. In it, monetary assets play a role in dispersing the credit crunch from a single bank run into a nationwide bank panic. As established by Diamond and Dybvig (1983), a single bank run is explained by a model without any monetary assets. In our model, however, the bond market is introduced to describe the process in which a bank run spreads. As a result, our model describes a general phenomenonÐcredit market failureÐrather than a single bank run. JEL classi®cation numbers: G21, E40.