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Opacity: Insurance and Fragility

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  • Ryuichiro Izumi

    (Department of Economics, Wesleyan University)

Abstract

What are the effects of banks holding opaque, complex assets? Should regulators require bank assets to be more transparent? I study these questions in a model of fnancial intermediation where opacity determines how long the realized value of an asset remains unknown. By allowing a bank to sell assets before the realization is known, opacity provides insurance to the bank's depositors. However, higher opacity also increases depositors' incentives to join a bank run. In choosing the level of opacity, therefore, a bank faces a trade-off between providing insurance and increasing fragility. If depositors can accurately observe the level of opacity, banks will choose the socially-effcient level. If depositors are unable to observe this choice, however, banks will have an incentive to become overly opaque and regulation to limit opacity can improve welfare.

Suggested Citation

  • Ryuichiro Izumi, 2019. "Opacity: Insurance and Fragility," Wesleyan Economics Working Papers 2019-005, Wesleyan University, Department of Economics.
    • Handle: RePEc:wes:weswpa:2019-005
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    More about this item

    Keywords

    Opacity; Bank runs; Insurance; Banking regulation;
    All these keywords.

    JEL classification:

    • G01 - Financial Economics - - General - - - Financial Crises
    • 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

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