Government Guarantees, Transparency, and Bank Risk-Taking

This paper presents a model of bank risk taking and government guarantees. Levered banks take excessive risk, as their actions are not fully priced at the margin by debt holders. The impact of government guarantees on bank risk taking depends criti...

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Main Authors:	Cordella, Tito, Dell'Ariccia, Giovanni, Marquez, Robert
Format:	Working Paper
Language:	English en_US
Published:	World Bank, Washington, DC 2017
Subjects:	banking risk transparency government guarantees bailouts moral hazard value effect leverage risk pricing risk taking debt holders
Online Access:	http://documents.worldbank.org/curated/en/468401487165710483/Government-guarantees-transparency-and-bank-risk-taking http://hdl.handle.net/10986/26138

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recordtype	oai_dc
spelling	okr-10986-261382021-06-08T14:42:47Z Government Guarantees, Transparency, and Bank Risk-Taking Cordella, Tito Dell'Ariccia, Giovanni Marquez, Robert banking risk transparency government guarantees bailouts moral hazard value effect leverage risk pricing risk taking debt holders This paper presents a model of bank risk taking and government guarantees. Levered banks take excessive risk, as their actions are not fully priced at the margin by debt holders. The impact of government guarantees on bank risk taking depends critically on the portion of bank investors that can observe bank behavior and hence price debt at the margin. Greater guarantees increase risk taking (moral hazard) when informed investors hold a sufficiently large fraction of liabilities. Otherwise, greater guarantees reduce risk taking by increasing the profits of the bank (franchise value effect). The results extend to the case in which information disclosure, and thus the portion of informed investors, is endogenous but costly. The model also shows that when bank capital is endogenous, public guarantees lead unequivocally to an increase in bank leverage and an associated increase in risk taking. The analysis points to a complex relationship between prudential policy and the institutional framework governing bank resolution and bailouts. 2017-02-22T22:06:55Z 2017-02-22T22:06:55Z 2017-02 Working Paper http://documents.worldbank.org/curated/en/468401487165710483/Government-guarantees-transparency-and-bank-risk-taking http://hdl.handle.net/10986/26138 English en_US Policy Research Working Paper;No. 7971 CC BY 3.0 IGO http://creativecommons.org/licenses/by/3.0/igo World Bank World Bank, Washington, DC Publications & Research Publications & Research :: Policy Research Working Paper
repository_type	Digital Repository
institution_category	Foreign Institution
institution	Digital Repositories
building	World Bank Open Knowledge Repository
collection	World Bank
language	English en_US
topic	banking risk transparency government guarantees bailouts moral hazard value effect leverage risk pricing risk taking debt holders
spellingShingle	banking risk transparency government guarantees bailouts moral hazard value effect leverage risk pricing risk taking debt holders Cordella, Tito Dell'Ariccia, Giovanni Marquez, Robert Government Guarantees, Transparency, and Bank Risk-Taking
relation	Policy Research Working Paper;No. 7971
description	This paper presents a model of bank risk taking and government guarantees. Levered banks take excessive risk, as their actions are not fully priced at the margin by debt holders. The impact of government guarantees on bank risk taking depends critically on the portion of bank investors that can observe bank behavior and hence price debt at the margin. Greater guarantees increase risk taking (moral hazard) when informed investors hold a sufficiently large fraction of liabilities. Otherwise, greater guarantees reduce risk taking by increasing the profits of the bank (franchise value effect). The results extend to the case in which information disclosure, and thus the portion of informed investors, is endogenous but costly. The model also shows that when bank capital is endogenous, public guarantees lead unequivocally to an increase in bank leverage and an associated increase in risk taking. The analysis points to a complex relationship between prudential policy and the institutional framework governing bank resolution and bailouts.
format	Working Paper
author	Cordella, Tito Dell'Ariccia, Giovanni Marquez, Robert
author_facet	Cordella, Tito Dell'Ariccia, Giovanni Marquez, Robert
author_sort	Cordella, Tito
title	Government Guarantees, Transparency, and Bank Risk-Taking
title_short	Government Guarantees, Transparency, and Bank Risk-Taking
title_full	Government Guarantees, Transparency, and Bank Risk-Taking
title_fullStr	Government Guarantees, Transparency, and Bank Risk-Taking
title_full_unstemmed	Government Guarantees, Transparency, and Bank Risk-Taking
title_sort	government guarantees, transparency, and bank risk-taking
publisher	World Bank, Washington, DC
publishDate	2017
url	http://documents.worldbank.org/curated/en/468401487165710483/Government-guarantees-transparency-and-bank-risk-taking http://hdl.handle.net/10986/26138
_version_	1764461040397975552

Government Guarantees, Transparency, and Bank Risk-Taking

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