Banking Concentration: Implications for Systemic Risk and Safety Net Design
AbstractThis paper explores the impact of banking concentration on safety net design –in particular, deposit insurance– and on systemic risk. The paper focuses on a system characterized by high concentration and low total number of banks. Each issue is addressed separately. The first section discusses best practices in deposit insurance design and derives conclusions for the case we are interested in. One is that in this context deposit insurance cannot be thought of as a stand-alone instrument, but rather must be understood as an element of the intervention and resolution policy. The second part of the paper studies systemic risk in such a system, using the Eisenberg and Noe (2001) approach to model and study risk in a network of banks. A working metric of the “too big to fail” situation can be derived in the model. More importantly, this section shows how the risk of idiosyncratic shocks spreading through the system are substantially higher in concentrated systems than in decentralized ones. Finally, the paper proposes and evaluates a specific regulatory measure that successfully contains systemic risk.
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Bibliographic InfoPaper provided by Central Bank of Chile in its series Working Papers Central Bank of Chile with number 231.
Date of creation: Oct 2003
Date of revision:
This paper has been announced in the following NEP Reports:
- NEP-ALL-2003-10-28 (All new papers)
- NEP-COM-2003-10-28 (Industrial Competition)
- NEP-RMG-2003-10-28 (Risk Management)
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