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Does financial integration make banks act more prudential? Regulation, foreign owned banks, and the lender-of-last resort

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  • Berger, Helge
  • Hefeker, Carsten

Abstract

We develop a simple model that looks at the incentives of private banks to behave prudentially and undertake costly efforts to lower the probability of bankruptcy or having to be bailed out by a lender of last resort. Government regulators can force banks to increase efforts beyond the privately optimal level. We contrast the national case under autarky with the case of an integrated banking market with bank cross-holdings. Because banks will exert a greater overall effort to monitor their foreign activities, financial integration might lead to more rather than less prudential behavior. Neither needs financial integration lead to a regulatory race to the bottom. We use the framework to investigate the impact of regulatory coordination on bank efforts and discuss incentives for banks to organize their foreign holdings in the form or branches or subsidiaries. We show that the absence of a common lender of last resort can reduce the probability of a financial crisis. --

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Bibliographic Info

Paper provided by Free University Berlin, School of Business & Economics in its series Discussion Papers with number 2006/2.

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Date of creation: 2006
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Handle: RePEc:zbw:fubsbe:20062

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Keywords: Bank regulation; lender of last resort; European financial markets;

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  1. Lieven Baele & Annalisa Ferrando & Peter Hördahl & Elizaveta Krylova & Cyril Monnet, 2004. "Measuring financial integration in the euro area," Occasional Paper Series 14, European Central Bank.
  2. Diamond, Douglas W & Dybvig, Philip H, 1983. "Bank Runs, Deposit Insurance, and Liquidity," Journal of Political Economy, University of Chicago Press, vol. 91(3), pages 401-19, June.
  3. Cornelia Holthausen & Thomas Rønde, 2003. "Cooperation in International Banking Supervision," CIE Discussion Papers 2004-02, University of Copenhagen. Department of Economics. Centre for Industrial Economics.
  4. Freixas, Xavier & Parigi, Bruno & Rochet, Jean-Charles, 2003. "The Lender of Last Resort: A 21th Century Approach," IDEI Working Papers 215, Institut d'Économie Industrielle (IDEI), Toulouse.
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  7. Tito Cordella & Eduardo Levy Yeyati, 2004. "Country Insurance," Econometric Society 2004 North American Summer Meetings 290, Econometric Society.
  8. Haizhou Huang & Charles Goodhart, 1999. "A Simple Model of an International Lender of Last Resort," FMG Discussion Papers dp336, Financial Markets Group.
  9. Prati, A. & Schinasi, G.J., 1999. "Financial Stability in European Economic and Monetary Union," Princeton Studies in International Economics 86, International Economics Section, Departement of Economics Princeton University,.
  10. Sander Osterloo & Dirk Schoenmaker, 2004. "Financial Supervision in an Integrating Europe: Measuring Cross-Border Externalities," FMG Special Papers sp156, Financial Markets Group.
  11. Repullo, Rafael, 2000. "A Model of Takeovers of Foreign Banks," CEPR Discussion Papers 2639, C.E.P.R. Discussion Papers.
  12. Calzolari, Giacomo & Loranth, Gyongyi, 2011. "Regulation of multinational banks: A theoretical inquiry," Journal of Financial Intermediation, Elsevier, vol. 20(2), pages 178-198, April.
  13. Xavier Vives, 2001. "Restructuring Financial Regulation in the European Monetary Union," Journal of Financial Services Research, Springer, vol. 19(1), pages 57-82, February.
  14. Ceyla Pazarbasioglu & Gudrun Johnsen & Paul Louis Ceriel Hilbers & Inci Ötker, 2005. "Assessing and Managing Rapid Credit Growth and the Role of Supervisory and Prudential Policies," IMF Working Papers 05/151, International Monetary Fund.
  15. de Bandt, Olivier & Hartmann, Philipp, 2000. "Systemic Risk: A Survey," CEPR Discussion Papers 2634, C.E.P.R. Discussion Papers.
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Cited by:
  1. Koulovatianos, Christos & Schröder, Carsten & Schmidt, Ulrich, 2006. "Non-market household time and the cost of children," Discussion Papers 2006/22, Free University Berlin, School of Business & Economics.

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