Financial Crisis Resolution
Title: Financial Crisis Resolution
Author: SCHROTH, Josef
Series/Number: EUI MWP; 2012/14
This paper studies a dynamic version of the Holmstrom-Tirole model of intermediated finance. I show that competitive equilibria are not constrained efficient when the economy experiences a financial crises. A pecuniary externality entails that bank back-loading of dividend payments may weaken bank incentives. Banks’ strong desire to accumulate capital over time aggravates the scarcity of informed capital during the financial crisis. I show that a constrained social planner finds it beneficial to introduce a permanent wedge between the deposit rate and the economy’s marginal rate of transformation. The wedge improves borrowers’ access to finance during a financial crisis by strengthening banks’ incentives to provide intermediation services. I propose a simple implementation of the constrained-efficient allocation that limits bank size.
Subject: Limited commitment; constrained efficiency; financial regulation; financial crises; E20; E51; G10; G18
Type of Access: openAccess