Illiquidity, insolvency, and banking regulation
AbstractThis paper provides a compact framework for banking regulation analysis in the presence of uncertainty between systemic liquidity and solvency shocks. Extending the work by Cao & Illing (2009a, b), it is shown that systemic liquidity shortage arises endogenously as part of the inferior mixed strategy equilibrium. The paper compares dierent traditional regulatory policies which intend to fix the ineciencies, and argues that the co-existence of illiquidity and insolvency problems adds extra cost for banking regulation and makes some schemes that are optimal under pure illiquidity risks (such as liquidity regulation with lender of last resort policy) fail. The regulatory cost can be minimized by combining the advantages of several instruments.
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Bibliographic InfoPaper provided by University of Munich, Department of Economics in its series Discussion Papers in Economics with number 11370.
Date of creation: Feb 2010
Date of revision:
liquidity risk; insolvency risk; liquidity regulation; equity requirement;
Other versions of this item:
- E5 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit
- G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
- G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation
This paper has been announced in the following NEP Reports:
- NEP-ALL-2010-02-27 (All new papers)
- NEP-BAN-2010-02-27 (Banking)
- NEP-BEC-2010-02-27 (Business Economics)
- NEP-MAC-2010-02-27 (Macroeconomics)
- NEP-REG-2010-02-27 (Regulation)
- NEP-RMG-2010-02-27 (Risk Management)
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.:
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- 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.
- Patrick Bolton & Tano Santos & Jose A. Scheinkman, 2009.
"Outside and Inside Liquidity,"
NBER Working Papers
14867, National Bureau of Economic Research, Inc.
- 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.
- 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.
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