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Default, Bailouts and the Vertical Structure of Financial Intermediaries

Author

Listed:
  • Tatiana Damjanovic

    (Durham University)

  • Vladislav Damjanovic

    (Durham University)

  • Charles Nolan

    (University of Glasgow)

Abstract

Should we break up banks and limit bailouts? We study vertical integration of deposit-taking institutions with those investing in risky equity. Integration eliminates a credit spread, reducing aggregate banking sector profitability; so while integration increases output it also entails larger, more frequent bailouts of retail customers. Bailouts boost economic activity but are costly. The optimal structure of banking depends on the efficiency of government intervention, the competitiveness of the banking sectors and shocks. Separated institutions are preferred when government bailouts are costly. Optimal bank regulation tolerates profits at investment and universal banks to limit bailouts, but imposes strict antitrust on retail banks. (Copyright: Elsevier)

Suggested Citation

  • Tatiana Damjanovic & Vladislav Damjanovic & Charles Nolan, 2020. "Default, Bailouts and the Vertical Structure of Financial Intermediaries," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 38, pages 154-180, October.
    • Handle: RePEc:red:issued:18-105
    DOI: 10.1016/j.red.2020.04.002
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    More about this item

    Keywords

    Financial intermediation in macro models; Vertical structure of financial intermediary; Separation of retail and investment banks; Bailouts; Trade-off between financial stability and efficiency;
    All these keywords.

    JEL classification:

    • E13 - Macroeconomics and Monetary Economics - - General Aggregative Models - - - Neoclassical
    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy
    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • G24 - Financial Economics - - Financial Institutions and Services - - - Investment Banking; Venture Capital; Brokerage
    • G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation

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