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Herd Behavior, Bank Runs and Information Disclosure

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Author Info
Yorulmazer, Tanju

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Abstract

I develop a dynamic model of bank runs that allows me to study important phenomena such as the role of information externalities and herd behavior of depositors as a source of bank runs. I show that eliminating bank runs completely, even they can be generated by herd behavior of depositors, has costs. Furthermore, a deposit contract that allows for runs can achieve higher levels of depositor welfare than a contract that completely eliminates them. Since early liquidation of bank's assets is costly, a central bank that acts as a lender of last resort alleviates some of the costs associated with bank runs. Yet it cannot prevent runs on healthy banks in the absence of perfect information about the bank's asset quality. In those cases, a deposit contract, even with liquidity support from the central bank, cannot achieve the first-best efficient outcome. As a policy measure, any efforts to give market discipline a stronger role in achieving financial stability should be accompanied by transparency and disclosure of information on banks’ soundness and management of the crisis.

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Paper provided by University Library of Munich, Germany in its series MPRA Paper with number 9513.

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Date of creation: 21 May 2003
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Handle: RePEc:pra:mprapa:9513

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Find related papers by JEL classification:
D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information
G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation
G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Mortgages

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