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Incentives in universal banks

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Author Info
Ugo Albertazzi () (Bank of Italy, Economic Research Department)
Abstract

This paper studies the provision of incentives in a universal bank. This is regarded as a (common) agent serving different clients with potentially conflicting interests; for example, it may buy assets on behalf of investors and sell assets on behalf of issuing firms. The clients offer incentive schemes to the bank and they behave non-cooperatively. The bank decides a level of effort and, when firewalls are absent, a level of collusion, modelled as a costly and unproductive redistribution of wealth among the clients. The main conclusion is that in the absence of firewalls the equilibrium incentive schemes are steeper. This means that the level of effort is higher and may compensate the (ex post) inefficiency of collusion. Moreover, this is shown not to hold in the presence of one naive player who does not recognize the existence of the conflict of interest. The model allows to draw conclusions about the desirability of firewalls or of softer measures like the imposition of transparency requirements.

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Paper provided by Bank of Italy, Economic Research Department in its series Temi di discussione (Economic working papers) with number 572.

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Date of creation: Jan 2006
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Handle: RePEc:bdi:wptemi:td_572_06

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Related research
Keywords: Common Agency; Collusion; Conflicts of Interest; Universal Banks;

Find related papers by JEL classification:
G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Mortgages
G24 - Financial Economics - - Financial Institutions and Services - - - Investment Banking; Venture Capital; Brokerage
G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation

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  1. Bernheim, B Douglas & Whinston, Michael D, 1986. "Common Agency," Econometrica, Econometric Society, vol. 54(4), pages 923-42, July. [Downloadable!] (restricted)
  2. John H. Boyd & Chun Chang & Bruce D. Smith, 1998. "Moral hazard under commercial and universal banking," Proceedings, Federal Reserve Bank of Cleveland, issue Aug, pages 426-471.
    Other versions:
  3. Bernard Shull & Lawrence J. White, 1998. "Of firewalls and subsidiaries: the right stuff for expanded bank activities," Proceedings, Federal Reserve Bank of Chicago, issue May, pages 509-530.
  4. Kofman, Fred & Lawarree, Jacques, 1996. "On the optimality of allowing collusion," Journal of Public Economics, Elsevier, vol. 61(3), pages 383-407, September. [Downloadable!] (restricted)
  5. David Martimort & Lars Stole, 2003. "Contractual Externalities and Common Agency Equilibria," The B.E. Journal of Theoretical Economics, Berkeley Electronic Press, vol. 0(1). [Downloadable!]
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  7. Benston, George J, 1994. "Universal Banking," Journal of Economic Perspectives, American Economic Association, vol. 8(3), pages 121-43, Summer. [Downloadable!] (restricted)
  8. Gompers, Paul & Lerner, Josh, 1999. "Conflict of Interest in the Issuance of Public Securities: Evidence from Venture Capital," Journal of Law & Economics, University of Chicago Press, vol. 42(1), pages 1-28, April.
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  9. Patrick Bolton & Xavier Freixas & Joel Shapiro, 2004. "Conflicts of Interest, Information Provision, and Competition in Banking," NBER Working Papers 10571, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  10. Martimort, David, 1996. "The multiprincipal nature of government," European Economic Review, Elsevier, vol. 40(3-5), pages 673-685, April. [Downloadable!] (restricted)
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  12. Hoernig, Steffen H., 2002. "Mixed Bertrand equilibria under decreasing returns to scale: an embarrassment of riches," Economics Letters, Elsevier, vol. 74(3), pages 359-362, February. [Downloadable!] (restricted)
  13. Diamond, Douglas W, 1984. "Financial Intermediation and Delegated Monitoring," Review of Economic Studies, Blackwell Publishing, vol. 51(3), pages 393-414, July. [Downloadable!] (restricted)
  14. Diamond, Douglas W & Dybvig, Philip H, 1983. "Bank Runs, Deposit Insurance, and Liquidity," Journal of Political Economy, University of Chicago Press, vol. 91(3), pages 401-19, June. [Downloadable!] (restricted)
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  15. Joel S. Demski, 2003. "Corporate Conflicts of Interest," Journal of Economic Perspectives, American Economic Association, vol. 17(2), pages 51-72, Spring. [Downloadable!] (restricted)
  16. Puri, Manju, 1996. "Commercial banks in investment banking Conflict of interest or certification role?," Journal of Financial Economics, Elsevier, vol. 40(3), pages 373-401, March. [Downloadable!] (restricted)
  17. Corsetti, Giancarlo & Pericoli, Marcello & Sbracia, Massimo, 2005. "'Some contagion, some interdependence': More pitfalls in tests of financial contagion," Journal of International Money and Finance, Elsevier, vol. 24(8), pages 1177-1199, December. [Downloadable!] (restricted)
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  18. Kroszner, Randall S. & Rajan, Raghuram G., 1997. "Organization structure and credibility: Evidence from commercial bank securities activities before the Glass-Steagall Act," Journal of Monetary Economics, Elsevier, vol. 39(3), pages 475-516, August. [Downloadable!] (restricted)
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  19. Martimort, David & Stole, Lars, 1999. "Contractual Externalities and Common Agency Equilibria," IDEI Working Papers 110, Institut d'Économie Industrielle (IDEI), Toulouse, revised 2003. [Downloadable!]
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