Market Discipline under Systemic Risk: Evidence from Bank Runs in Emerging Economies

This paper shows that systemic risk exerts a significant impact on the behavior of depositors, sometimes overshadowing their responses to standard bank fundamentals. Systemic risk can affect market discipline both regardless of and through bank fundamentals. First, worsening systemic conditions can directly threaten the value of deposits via dual agency problems. Second, systemic shocks can lead to a future deterioration of fundamentals and affect the exposure to systemic risk, not captured by standard fundamentals. Using data from the recent banking crises in Argentina and Uruguay, we show that market discipline is indeed quite robust once systemic risk is factored in. As the latter increases, the informational content of past fundamentals declines. These episodes also illustrate how few systemic shocks can trigger a run irrespective of ex-ante fundamentals. Overall, the evidence suggests that, in emerging economies, the notion of market discipline needs to account for systemic risk