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Financial synergies and the Organization of Bank Affiliates; A Theoretical Perspective on Risk and Efficiency

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  • Elisa Luciano
  • Clas Wihlborg

Abstract

We analyze theoretically banks’ choice of organizational structures in branches or subsidiaries in the presence of government bailouts, default costs and - possibly - economies of scale as sources of financial synergies. We compare with stand-alone banks. Subsidiary and branch structures are characterized by different arrangements for internal insurance of affiliates against default risk. The cost of debt and leverage are endogenous. For moderate bailout probabilities, subsidiary structures, wherein the two entities provide mutual internal insurance under limited liability, have the highest private group value, but also the highest risk taking as measured by leverage, expected default costs and expected loss. The branch structure, wherein the two affiliates support each other until the whole bank fails, is generally burdened by greater default costs – in excess of bailout benefits – than the subsidiary structures. Stand-alone banks have the highest excess default costs. We explore also the impact on social values and policy implications of "ring-fencing" of affiliates.

Suggested Citation

  • Elisa Luciano & Clas Wihlborg, 2013. "Financial synergies and the Organization of Bank Affiliates; A Theoretical Perspective on Risk and Efficiency," Carlo Alberto Notebooks 322, Collegio Carlo Alberto, revised 2014.
  • Handle: RePEc:cca:wpaper:322
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    File URL: http://www.carloalberto.org/assets/working-papers/no.322.pdf
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    References listed on IDEAS

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    More about this item

    Keywords

    bank organization; bank risk; financial synergies; endogenous leverage in banking; default costs; bailouts;

    JEL classification:

    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill
    • G33 - Financial Economics - - Corporate Finance and Governance - - - Bankruptcy; Liquidation

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