Cash-in-the-market pricing and optimal resolution of bank failures
AbstractAs the number of bank failures increases, the set of assets available for acquisition by the surviving banks enlarges but the total amount of available liquidity within the surviving banks falls. This results in ‘cash-in-the-market’ pricing for liquidation of banking assets. At a sufficiently large number of bank failures, and in turn, at a sufficiently low level of asset prices, there are too many banks to liquidate and inefficient users of assets who are liquidity-endowed may end up owning the liquidated assets. In order to avoid this allocation inefficiency, it may be ex-post optimal for the regulator to bail out some failed banks. We show however that there exists a policy that involves liquidity assistance to surviving banks in the purchase of failed banks and that is equivalent to the bailout policy from an ex-post standpoint. Crucially, the liquidity provision policy gives banks incentives to differentiate, rather than to herd, makes aggregate banking crises less likely, and, thereby dominates the bailout policy from an ex-ante standpoint.
Download InfoIf you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.
Bibliographic InfoPaper provided by Bank of England in its series Bank of England working papers with number 328.
Date of creation: Jun 2007
Date of revision:
Contact details of provider:
Postal: Publications Group Bank of England Threadneedle Street London EC2R 8AH
Phone: +44 (0)171 601 4030
Fax: +44 (0)171 601 5196
Web page: http://www.bankofengland.co.uk/
More information through EDIRC
Other versions of this item:
- Viral V. Acharya & Tanju Yorulmazer, 2008. "Cash-in-the-Market Pricing and Optimal Resolution of Bank Failures," Review of Financial Studies, Society for Financial Studies, vol. 21(6), pages 2705-2742, November.
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
- Acharya, Viral V. & Bharath, Sreedhar T. & Srinivasan, Anand, 2007. "Does industry-wide distress affect defaulted firms? Evidence from creditor recoveries," Journal of Financial Economics, Elsevier, vol. 85(3), pages 787-821, September.
- Viral Acharya & Tanju Yorulmazer, 2007.
"Too many to fail - an analysis of time-inconsistency in bank closure policies,"
Bank of England working papers
319, Bank of England.
- Acharya, Viral V. & Yorulmazer, Tanju, 2007. "Too many to fail--An analysis of time-inconsistency in bank closure policies," Journal of Financial Intermediation, Elsevier, vol. 16(1), pages 1-31, January.
- Acharya, Viral V & Yorulmazer, Tanju, 2004. "Too Many to Fail - An Analysis of Time Inconsistency in Bank Closure Policies," CEPR Discussion Papers 4778, C.E.P.R. Discussion Papers.
- Allen, Franklin & Gale, Douglas, 1994.
"Limited Market Participation and Volatility of Asset Prices,"
American Economic Review,
American Economic Association, vol. 84(4), pages 933-55, September.
- Allen, F. & Gale, D., 1991. "Limited Market Participation and Volatility of Asset Prices," Weiss Center Working Papers 2-92, Wharton School - Weiss Center for International Financial Research.
- Gale, D. & Allen, F., 1991. "Limited Market Participation and Volatility of Asset Prices," Weiss Center Working Papers 14-91, Wharton School - Weiss Center for International Financial Research.
- Acharya, Viral V., 2009.
"A Theory of Systemic Risk and Design of Prudential Bank Regulation,"
CEPR Discussion Papers
7164, C.E.P.R. Discussion Papers.
- Acharya, Viral V., 2009. "A theory of systemic risk and design of prudential bank regulation," Journal of Financial Stability, Elsevier, vol. 5(3), pages 224-255, September.
- repec:fip:fedhpr:y:2000:i:may:p:284-319 is not listed on IDEAS
- Franklin Allen & Douglas Gale, 1998.
"Optimal Financial Crises,"
Journal of Finance,
American Finance Association, vol. 53(4), pages 1245-1284, 08.
- Berger, Philip G. & Ofek, Eli & Swary, Itzhak, 1996. "Investor valuation of the abandonment option," Journal of Financial Economics, Elsevier, vol. 42(2), pages 257-287, October.
- Glenn Hoggarth & Jack Reidhill & Peter Sinclair, 2004. "On the resolution of banking crises: theory and evidence," Bank of England working papers 229, Bank of England.
- Franklin Allen & Douglas Gale, 1998. "Financial Contagion Journal of Political Economy," Center for Financial Institutions Working Papers 98-31, Wharton School Center for Financial Institutions, University of Pennsylvania.
- Glenn Hoggarth & Ricardo Reis & Victoria Saporta, 2001.
"Costs of banking system instability: some empirical evidence,"
Bank of England working papers
144, Bank of England.
- Hoggarth, Glenn & Reis, Ricardo & Saporta, Victoria, 2002. "Costs of banking system instability: Some empirical evidence," Journal of Banking & Finance, Elsevier, vol. 26(5), pages 825-855, May.
This item has more than 25 citations. To prevent cluttering this page, these citations are listed on a separate page. reading list or among the top items on IDEAS.Access and download statisticsgeneral information about how to correct material in RePEc.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Publications Team).
If references are entirely missing, you can add them using this form.