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Uncertainty as commitment

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Author Info

  • Jaromir Nosal

    (Columbia University)

  • Guillermo Ordoñez

    (University of Pennsylvania and NBER)

Abstract

Time-inconsistency of no-bailout policies can create incentives for banks to take excessive risks and generate endogenous crises when the government cannot commit. However, at the outbreak of financial problems, usually the government is uncertain about their nature, and hence it may delay intervention to learn more about them. We show that intervention delay leads to strategic restraint: banks endogenously restrict the riskiness of their portfolio relative to their peers in order to avoid being the worst performers and bearing the cost of such delay. These novel forces help to avoid endogenous crises even when the government cannot commit. We analyze the effect of government policies from the perspective of this new result.

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Bibliographic Info

Paper provided by National Bank of Poland, Economic Institute in its series National Bank of Poland Working Papers with number 141.

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Length: 57
Date of creation: 2013
Date of revision:
Handle: RePEc:nbp:nbpmis:141

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Keywords: bailouts; commitment; liquidity; banking; government policy; regulation;

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References

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  1. Cukierman, Alex & Izhakian, Yehuda, 2011. "Bailout Uncertainty in a Microfounded General Equilibrium Model of the Financial System," CEPR Discussion Papers 8453, C.E.P.R. Discussion Papers.
  2. Bengt Holmstrom & Jean Tirole, 1996. "Private and Public Supply of Liquidity," NBER Working Papers 5817, National Bureau of Economic Research, Inc.
  3. Ing-Haw Cheng & Konstantin Milbradt, 2012. "The Hazards of Debt: Rollover Freezes, Incentives, and Bailouts," Review of Financial Studies, Society for Financial Studies, vol. 25(4), pages 1070-1110.
  4. Todd Keister, 2010. "Bailouts and financial fragility," Staff Reports 473, Federal Reserve Bank of New York.
  5. 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.
  6. Kelly, Bryan & Lustig, Hanno & van Nieuwerburgh, Stijn, 2012. "Too-Systemic-To-Fail: What Option Markets Imply About Sector-wide Government Guarantees," CEPR Discussion Papers 9023, C.E.P.R. Discussion Papers.
  7. Carrillo, Juan D & Mariotti, Thomas, 2000. "Strategic Ignorance as a Self-Disciplining Device," Review of Economic Studies, Wiley Blackwell, vol. 67(3), pages 529-44, July.
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Blog mentions

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  1. A hesitant government may have good aspects
    by Economic Logician in Economic Logic on 2013-03-15 14:42:00
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Cited by:
  1. Todd Keister, 2014. "Bailouts and Financial Fragility," Departmental Working Papers 201401, Rutgers University, Department of Economics.
  2. Javier Bianchi, 2012. "Efficient bailouts?," Globalization and Monetary Policy Institute Working Paper 133, Federal Reserve Bank of Dallas.

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