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The leverage effect of bank disclosures

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  • König, Philipp Johann
  • Laux, Christian
  • Pothier, David

Abstract

The general view underlying bank regulation is that bank disclosures providemarket discipline and reduce banks' risk-taking incentives. We show that bankdisclosures can increase bank leverage and bank risk. The reason stems from theinteraction between insured and uninsured debt. Bank disclosures reduce the agencyproblem between uninsured debt and equity, thereby lowering the cost of leverage forbanks. By issuing uninsured short-term debt that is repaid ahead of insured depositswhen economic conditions deteriorate, banks dilute insured deposits. Higher levelsof uninsured short-term debt increase the subsidy provided by deposit insurance,which increases banks' risk-taking incentives. We identify conditions under whichthis negative leverage effect dominates the standard market discipline effect, so thatproviding market discipline through bank disclosures increases banks' risk.

Suggested Citation

  • König, Philipp Johann & Laux, Christian & Pothier, David, 2021. "The leverage effect of bank disclosures," Discussion Papers 31/2021, Deutsche Bundesbank.
    • Handle: RePEc:zbw:bubdps:312021
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    More about this item

    Keywords

    Bank Disclosures; Market Discipline; Bank Leverage;
    All these keywords.

    JEL classification:

    • D80 - Microeconomics - - Information, Knowledge, and Uncertainty - - - General
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading

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