Bailouts and Systemic Insurance
Electronic Access:
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Summary:
We revisit the link between bailouts and bank risk taking. The expectation of government support to failing banks creates moral hazard—increases bank risk taking. However, when a bank’s success depends on both its effort and the overall stability of the banking system, a government’s commitment to shield banks from contagion may increase their incentives to invest prudently and so reduce bank risk taking. This systemic insurance effect will be relatively more important when bailout rents are low and the risk of contagion (upon a bank failure) is high. The optimal policy may then be not to try to avoid bailouts, but to make them “effective”: associated with lower rents.
Series:
Working Paper No. 2013/233
Subject:
Bank credit Banking Commercial banks Distressed institutions Financial institutions Financial sector policy and analysis Insurance Money Moral hazard Tax incentives
English
Publication Date:
November 12, 2013
ISBN/ISSN:
9781475514742/1018-5941
Stock No:
WPIEA2013233
Pages:
28
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