Why Are There So Many Banking Crises?: The Politics and Policy of Bank Regulation

WHAY ARE THERE SO MANY BANKING CRISES? THE POLITICS AND POLICY OF BANK REGULATION......Page 1
Half-title......Page 2
Title Page......Page 4
Copyright Page......Page 5
Contents......Page 6
Preface and Acknowledgments......Page 10
General Introduction and Outline of the Book......Page 14
The Lender of Last Resort......Page 15
Prudential Regulation and the Management of Systemic Risk......Page 16
Solvency Regulations......Page 18
Market Discipline versus Regulatory Intervention......Page 20
Imposing More Transparency......Page 21
Changing the Liability Structure of Banks......Page 22
Using Market Information......Page 24
How to Integrate Market Discipline and Banking Supervision......Page 25
References......Page 27
Part I: Why Are there So Many Banking Crises?......Page 32
1.1 Introduction......Page 34
1.2 The Sources of Banking Fragility......Page 36
1.3 The Lender of Last Resort......Page 37
1.4 Deposit Insurance and Solvency Regulations......Page 40
1.5 Lessons from Recent Crises......Page 41
1.6 The Future of Banking Supervision......Page 43
References......Page 46
Part II: The Lender of Last Resort......Page 48
2.1 Introduction......Page 50
2.2 The Model......Page 54
2.3 Runs and Solvency......Page 57
2.4 Equilibrium of the Investors’ Game......Page 60
2.5 Coordination Failure and Prudential Regulation......Page 67
2.6 Coordination Failure and LLR Policy......Page 69
2.7 Endogenizing the Liability Structure and Crisis Resolution......Page 72
2.8 An International LLR......Page 76
2.8.2 Results......Page 77
2.9 Concluding Remarks......Page 79
References......Page 80
3.1 Introduction......Page 84
3.2.1 Banks and Depositors......Page 88
3.2.2 Liquidity and Solvency Shocks......Page 90
3.2.3 Bankers’ Incentives......Page 91
3.2.4 Prudential Regulation......Page 92
3.3 Efficient Supervision: Detection and Closure of Insolvent Banks......Page 94
3.3.1 The Optimal Allocation when Supervision Is Efficient......Page 95
3.3.2 Implementing the Efficient Allocation......Page 96
3.4 Efficient Closure......Page 98
3.4.1 Efficient Allocation with Orderly Closure......Page 100
3.5.1 Central Bank Lending and the Interbank Market......Page 102
3.5.2 The Operational Framework......Page 103
3.5.3 The Terms of Central Bank Lending......Page 105
3.5.4 When Is Central Bank Intervention Useful?......Page 107
3.6 Efficient Allocation in the Presence of Gambling for Resurrection......Page 108
3.7 Policy Implications and Conclusions......Page 110
3.8 Appendix......Page 112
3.8.1 Calculation of Interest Rate Spreads......Page 114
References......Page 115
Part III: Prudential Regulation and the Management of Systemic Risk......Page 118
4.1 Introduction......Page 120
4.2 A Brief Survey of the Literature......Page 121
4.3 A Simple Model of Prudential Regulation without Macroeconomic Shocks......Page 123
4.4 How to Deal with Macroeconomic Shocks?......Page 127
4.5 Is Market Discipline Useful?......Page 133
4.6 Policy Recommendations for Macroprudential Regulation......Page 136
References......Page 137
Jean-Charles Rochet and Jean Tirole......Page 141
5.1.1 The Model......Page 147
5.1.2 Implementation......Page 151
5.1.3 Positive NPV, Liquidity, and Solvency......Page 152
5.1.5 Modeling Interbank Monitoring......Page 153
5.2.1 The Two-Bank Case: Optimal Allocation with Peer Monitoring......Page 154
5.2.2 Intuition and Implementation......Page 160
5.2.3 Soft Budget Constraints Do Not Imply Too Big to Fail......Page 162
5.3 Date-1 Monitoring, Too Big to Fail, and Bank Failure Propagations......Page 163
5.3.1 A Symmetric Model of Date-1 Monitoring......Page 164
5.3.2 The Nature of the Economies of Scope between Interbank and Commercial Activities......Page 165
5.3.3 Characterization of Pareto–Optima......Page 166
5.3.4 Too Big to Fail and Systemic Risk......Page 168
5.4 Conclusion......Page 169
5.5 Appendix: Solution of Program (P)......Page 170
References......Page 172
Jean-Charles Rochet and Jean Tirole......Page 174
6.1.1 Different Types of Risk......Page 176
6.1.2 The Meaning of Systemic Risk......Page 177
6.1.3 The Dimensions of Payment System Design......Page 178
6.2.1 A Net System: CHIPS......Page 182
6.2.2 A Gross System with Counterparty: Fedwire......Page 183
6.2.4 A Gross System without Counterparty: SIC......Page 186
6.3.1 Even in a Payment System, the Primitive Problem Is that of Solvency, Not of Liquidity......Page 188
6.3.2 Is Monitoring a Natural Monopoly?......Page 189
6.3.3 The Necessity of an Adequacy between the Role and the Incentives of the Monitor......Page 191
6.3.4 Limiting the Overdrafts: Price or Quantities?......Page 192
6.3.5 Externalities between Payment Systems......Page 193
6.4.1 The Extreme Case of the Central Bank as the Only Monitor......Page 196
6.4.2 Adding Interbank Loans and Banks Mutual Monitoring......Page 198
6.5.1 Description......Page 199
6.5.2 Comparison with Existing Systems......Page 202
6.5.3 Discussion......Page 205
6.6 Conclusion......Page 207
References......Page 208
Xavier Freixas, Bruno M. Parigi, and Jean-Charles Rochet......Page 211
7.1.1 Basic Setup......Page 215
7.1.2 General Formulation of Consumption across Space......Page 217
7.2 Pure Coordination Problems......Page 221
7.3 Resiliency and Market Discipline in the Interbank System......Page 223
7.4.1 Efficiency versus Contagion Risk......Page 226
7.4.2 Comparison with Allen and Gale (2000)......Page 228
7.5 Too-Big-to-Fail and Money Center Banks......Page 229
7.6 Discussions and Conclusions......Page 231
7.6.2 Imperfect Information on Banks’ Returns......Page 232
7.7 Appendix: Proof of Proposition 7.1......Page 233
References......Page 238
Part IV: Solvency Regulations......Page 240
8.1 Introduction......Page 242
8.2 The Model......Page 245
8.3 The Behavior of Banks in the Complete Markets Setup......Page 246
8.3.1 Without Deposit Insurance......Page 247
8.3.2 With Deposit Insurance but No Capital Requirement......Page 248
8.3.3 With Deposit Insurance and Capital Requirements......Page 251
8.4 The Portfolio Model......Page 253
8.5 The Behavior of Banks in the Portfolio Model without Capital Requirements......Page 255
8.6 Introducing Capital Requirements in the Portfolio Model......Page 259
8.7 Introducing Limited Liability in the Portfolio Model......Page 261
8.8 Conclusion......Page 264
8.9.1 Proof of lemma 8.1......Page 265
8.9.2 Proof of proposition 8.8......Page 266
8.9.3 Proof of proposition 8.10......Page 268
8.9.4 Proof of proposition 8.11......Page 269
8.10 An Example of an Increase in the Default Probability Consecutive to the Adoption of the Capital Requirement......Page 271
References......Page 272
9.1 Introduction......Page 273
9.2 The Three Pillars in the Academic Literature......Page 274
9.3 A Formal Model......Page 275
9.4 Justifying the Minimum Capital Ratio......Page 280
9.5 Market Discipline and Subordinated Debt......Page 283
9.6 Market Discipline and Supervisory Action......Page 284
9.7 Conclusion......Page 287
9.8.2 Value of the Bank’s Equity......Page 289
9.8.3 Minimum Capital Ratio......Page 290
9.8.4 Subordinated Debt......Page 291
References......Page 292
10.1 Introduction......Page 296
10.2 Related Literature......Page 299
10.3 The Model......Page 302
10.4 The Justification of Solvency Requirements......Page 307
10.5 Market Discipline......Page 309
10.6 Supervisory Action......Page 313
10.7 Concluding Remarks......Page 317
10.9 Appendix: Optimal Recapitalization by Public Funds Is Infinitesimal (Liquidity Assistance)......Page 318
10.10 Appendix: Proof of Proposition 9.3......Page 319
References......Page 320