Bailouts and Systemic Insurance

Author/Editor:

Giovanni Dell'Ariccia ; Lev Ratnovski

Publication Date:

November 12, 2013

Electronic Access:

Free Download. Use the free Adobe Acrobat Reader to view this PDF file

Disclaimer: This Working Paper should not be reported as representing the views of the IMF.The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the IMF or IMF policy. Working Papers describe research in progress by the author(s) and are published to elicit comments and to further debate

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:

English

Publication Date:

November 12, 2013

ISBN/ISSN:

9781475514742/1018-5941

Stock No:

WPIEA2013233

Pages:

28

Please address any questions about this title to publications@imf.org