Banks fail because of bad economic fundamentals, or panic withdrawals by depositors. We show that even though there is no need for regulation when the bank’s policy regarding its solvency is transparent, there is indeed need for regulation if there is a lack of transparency. When the bank has private information, it chooses lower reserves and higher early returns than what maximises depositor welfare, which increases the probability of bank runs. Therefore the regulators should .x a maximum for early return and minimum for reserves. With transparency, there is excess reserves, and this inefficiency increases with the proportion of impatient agents.
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Paper provided by Centre for Dynamic Macroeconomic Analysis in its series CDMA Working Paper Series with number
0714.
Length: Date of creation: Sep 2007 Date of revision: Handle: RePEc:san:cdmawp:0714
Note: This is a revised version of my paper "Optimal reserves and early returns in a model of bank runs" (University of Essex discussion paper 605, December 2005). Contact details of provider: Postal: School of Economics and Finance, University of St. Andrews, Fife KY16 9AL Phone: 01334 462420 Fax: 01334 462444 Email: Web page: http://www.st-andrews.ac.uk/cdma More information through EDIRC
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[Downloadable!] (restricted)
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[Downloadable!] (restricted)
Other versions:
Peck, James & Shell, Karl, 2001.
"Equilibrium Bank Runs,"
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[Downloadable!]