## Global Moral Hazard, Capital Account Liberalization and the “Overlending Syndrome”

_IMF Working Papers, July 1, 1999_

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## Bibliographic details
- Authors: Eduardo Levy Yeyati
- Published: July 1, 1999
- Series: IMF Working Papers
- DOI: https://doi.org/10.5089/9781451852387.001

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### Summary / Main finding
- The removal of government guarantees in borrowing countries does not eliminate the moral hazard problem posed by the existence of deposit guarantees in lender countries.
- After restrictions on international capital flows are lifted, banks in low-risk developed countries benefit from lending funds captured in home markets at low deposit rates to high-risk/high-yield projects in emerging economies, even though these projects command lower expected returns.
- This behavior has a negative impact on bank profitability in the borrowing country, even when foreign funds are intermediated through domestic banks.
- The results are consistent with the surge in international bank lending flows that led to recent banking crises in Asia.

### Mechanism described
- Deposit guarantees in lender countries allow banks in those countries to capture funds at low deposit rates.
- These banks then lend to high-risk/high-yield projects in emerging economies after capital account liberalization.
- The transferred funds flow into projects that offer higher nominal yields but lower expected returns, creating an incentive misalignment (global moral hazard).
- The practice reduces profitability for banks in the borrowing country, regardless of whether lending is direct or intermediated through domestic banks.

### Implications and interpretation
- Capital account liberalization can trigger cross-border lending behavior that amplifies global moral hazard when lender-country deposit guarantees remain in place.
- Removal of government guarantees in borrowing countries alone is insufficient to prevent adverse cross-border incentives created by lender-country deposit insurance.
- The pattern of flows and incentives identified is consistent with the international bank lending surge associated with banking crises in Asia.

### Subject classifications and keywords
- Subjects: Balance of payments, Banking, Capital account liberalization, Commercial banks, Deposit insurance, Deposit rates, Financial crises, Financial institutions, Financial sector policy and analysis, Financial services, Moral hazard
- Keywords: bank profit, bank shareholder, Banking Crises, capital account, Capital Account Liberalization, Commercial banks, Deposit Insurance, Deposit rates, high-yield project, lender bank, loan issue, maximization problem, Moral Hazard, risk profile, WP

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## Content in this bundle

- **Global Moral Hazard, Capital Account Liberalization and the "Overlending Syndrome" - WP/99/100**
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_Source: https://www.imf.org/en/publications/wp/issues/2016/12/30/global-moral-hazard-capital-account-liberalization-and-the-overlending-syndrome-3164_