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‘Too Systemically Important to Fail’ in Banking

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Author Info

  • Phil Molyneux

    ()
    (Bangor Business School)

  • Klaus Schaeck

    ()
    (Bangor Business School)

  • Tim Zhou

    (Bangor Business School)

Abstract

The recent financial turmoil and bailouts of a large number of banks have raised substantial policy concerns regarding banks that are considered ‘Too-systemically-important-to-fail’ (TSITF). In this paper, we exploit a sample of bank mergers and acquisitions (M&As) between 1997 and 2008 in nine EU economies and use an innovative setup derived from the frontier literature to capture safety net subsidy effects and evaluate their ramifications for systemic risk. We focus on three closely related phenomena: First, we use frontier methods to extract information on whether banks deliberately pay premiums for being considered TSITF. Second, we incorporate the safety net subsidies derived from the frontier methods in a probit model to assess whether they affect the probability of a bank being rescued during the recent crisis. We find that safety net benefits derived from M&A activity have a significantly positive association with the rescue probability, suggesting the moral hazard issue in banking systems pre-crisis. Third, we do not find that gaining safety net subsidies leads to TSITF bank’s increased interdependence on its peer banks. From a policy perspective, the findings help understand whether banks exploit national safety nets and increase instability in the financial system.

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Bibliographic Info

Paper provided by Bangor Business School, Prifysgol Bangor University (Cymru / Wales) in its series Working Papers with number 11011.

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Date of creation: Nov 2011
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Handle: RePEc:bng:wpaper:11011

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Keywords: systemic importance; systemic risk; merger and acquisition; banking;

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References

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Cited by:
  1. Thomas Conlon & John Cotter, 2014. "Anatomy of a Bail-In," Papers 1403.7628, arXiv.org.
  2. Thomas Conlon & John Cotter, 2014. "Anatomy of a Bail-In," Working Papers, Geary Institute, University College Dublin 201405, Geary Institute, University College Dublin.

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