Douglas W. Diamond Wins Nobel Prize in Economic Sciences

Diamond is the 97th scholar associated with the university to receive a Nobel Prize, and the 33rd to receive the Nobel in economics. In addition to Diamond, seven current UChicago faculty members are Nobel laureates in economics: professor Michael Kremer (who won in 2019), professor Richard Thaler (2017), professors Eugene Fama and Lars Hansen (2013), professor Roger Myerson (2007), professor James Heckman (2000) and professor Robert E. Lucas Jr. (1995).

Diamond is one of the world’s leading authorities on bank runs and liquidity crises.

He is known for his research into financial intermediaries, financial crises, and liquidity. His research agenda for the past 40 years has been to explain what banks do, why they do it, and the consequences of these arrangements.

Diamond’s earliest research explained how the economic role of banks generated an essential link between the properties of their assets and the form of their liabilities. In “Financial Intermediation and Delegated Monitoring,” a paper based on his PhD dissertation that appeared in The Review of Economic Studies in 1984, he showed how the bank’s special assets (special because they monitored special information about business borrowers) forced them to finance themselves with debt liabilities (deposits) rather than equity and also led banks to diversify across many loans.

A bit later, he and Philip H. Dybvig developed the Diamond-Dybvig model, “Bank Runs, Deposit Insurance, and Liquidity,” which appeared in the Journal of Political Economy in 1983. The Diamond-Dybvig model demonstrates how banks specializing in creating liquid liabilities (deposits) to fund illiquid assets (such as business loans) may be unstable and give rise to bank runs. It shows how banks’ special liabilities, combined with illiquid assets, explain the role of banks, why they may be unstable, and why they may need a government safety net (such as deposit insurance) more than other borrowers.

“Phil Dybvig and I had the idea when we did our research that it could have some impact on the way that central bankers and regulators around the world thought about the financial system, about banks, about deposit insurance stability,” Diamond said, “so given that those issues of stability in the financial system are still very important, I’m very happy this was acknowledged.”

The Nobel announcement also cited Diamond’s work on the function of banks as intermediaries between many savers and borrowers—pointing out their role in assessing borrowers’ creditworthiness and the likelihood of success of their investments, and in monitoring the health of current investments.

In a virtual news conference hosted by the Royal Swedish Academy of Sciences, Diamond commented on how to avoid and respond to financial crises: “The best advice is to be prepared for making sure that your part of the banking sector is both perceived to be healthy and to stay healthy and respond in a measured and transparent way to changes in monetary policy.”

Diamond is a research associate of the National Bureau of Economic Research. He was president of the American Finance Association and the Western Finance Association, is a member of the National Academy of Sciences, and is a fellow of the Econometric Society, the American Academy of Arts and Sciences, and the American Finance Association.

His groundbreaking work on bank runs and financial crises earned him the Onassis Prize in Finance in 2018. Diamond also received the Chicago Mercantile Exchange Group-MSRI Prize in Innovative Quantitative Applications in 2016 and the Morgan Stanley-American Finance Association Award for Excellence in Finance in 2012.

Diamond’s other highly cited works include “Monitoring and Reputation: The Choice Between Bank Loans and Directly Placed Debt” in the Journal of Political Economy in 1991, and “Liquidity Risk, Liquidity Creation and Financial Fragility: A Theory of Banking” in the Journal of Political Economy in 2001. The latter was co-written with Chicago Booth’s Raghuram G. Rajan, who is the Katherine Dusak Miller Distinguished Service Professor of Finance and the former governor of the Reserve Bank of India. Diamond and Rajan have written a series of influential papers on banking and crises.

Diamond has taught at Yale University and was a visiting professor at the MIT Sloan School of Management, the Hong Kong University of Science and Technology, and the University of Bonn.

Diamond earned a bachelor’s degree in economics from Brown University in 1975. He earned master’s degrees in 1976 and 1977 and a PhD in 1980 in economics, all from Yale.