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Surviving the perfect storm: the role of the lender of last resort
E44 - Financial Markets and the Macroeconomy
E5 - Monetary Policy, Central Banking, and the Supply of Money and Credit
G21 - Banks; Other Depository Institutions; Mortgages
When banks are hit by a severe liquidity shock, central banks have a key role as lenders of last resort. Despite the well-established importance of this mechanism, there is scarce empirical evidence that allows analyzing this key role of central banks. We are able to explore a unique setting in which banks suddenly lose access to market funding due to contagion fears at the onset of the euro area sovereign debt crisis. Using monthly data at the loan, bank, and firm level, we are able to test the role of the central bank in a scenario of imminent collapse. We find that the liquidity obtained from the central bank played a critical role in avoiding the materialization of such a scenario.