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Deposits and Bank Capital Structure

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  • Franklin Allen
  • Elena Carletti

Abstract

In a model with bankruptcy costs and segmented deposit and equity markets, we endogenize the choice of bank and firm capital structure and the cost of equity and deposit finance. Despite risk neutrality, equity capital is more costly than deposits. When banks directly finance risky investments, they hold positive capital and diversify. When they make risky loans to firms, banks trade off the high cost of equity with the diversification benefits from a lower bankruptcy probability. When bankruptcy costs are high, banks use no capital and only lend to one sector. When these are low, banks hold capital and diversify.

Suggested Citation

  • Franklin Allen & Elena Carletti, 2013. "Deposits and Bank Capital Structure," Economics Working Papers ECO2013/03, European University Institute.
  • Handle: RePEc:eui:euiwps:eco2013/03
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    References listed on IDEAS

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    Cited by:

    1. repec:eee:jfinec:v:125:y:2017:i:2:p:266-285 is not listed on IDEAS
    2. Bertsch, Christoph & Mariathasan, Mike, 2015. "Optimal Bank Capitalization in Crowded Markets," Working Paper Series 312, Sveriges Riksbank (Central Bank of Sweden), revised 01 Dec 2017.
    3. Mark Mink, 2016. "Aggregate liquidity and banking sector fragility," DNB Working Papers 534, Netherlands Central Bank, Research Department.
    4. Juliane M. Begenau, 2015. "Capital Requirements, Risk Choice, and Liquidity Provision in a Business Cycle Model," Harvard Business School Working Papers 15-072, Harvard Business School, revised Sep 2016.
    5. Ahnert, Toni & Perotti, Enrico C, 2015. "Cheap but flighty: how global imbalances create financial fragility," CEPR Discussion Papers 10502, C.E.P.R. Discussion Papers.
    6. Zouheir Bouchaddakh & Mohamed Mekki Ben Jemaa, 2016. "Risk Sharing Vs Risk Bearing and Shifting: Evidence from Conventional and Islamic Banks of MENA Region Using Metafrontier Directional Distance Functions," Working Papers 1042, Economic Research Forum, revised 09 Jan 2016.
    7. Piero Gottardi & Douglas Gale, 2017. "Equilibrium Theory of Banks' Capital Structure," 2017 Meeting Papers 380, Society for Economic Dynamics.
    8. William Gornall & Ilya A. Strebulaev, 2013. "Financing as a Supply Chain: The Capital Structure of Banks and Borrowers," NBER Working Papers 19633, National Bureau of Economic Research, Inc.
    9. Simas Kucinskas, 2015. "Liquidity Creation without Banks," Tinbergen Institute Discussion Papers 15-101/VI, Tinbergen Institute.
    10. DeAngelo, Harry & Stulz, René M., 2015. "Liquid-claim production, risk management, and bank capital structure: Why high leverage is optimal for banks," Journal of Financial Economics, Elsevier, vol. 116(2), pages 219-236.
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    13. Simas Kucinskas, 2015. "Liquidity creation without banks," DNB Working Papers 482, Netherlands Central Bank, Research Department.
    14. Katsutoshi Shimizu & Kim Cuong Ly, 2018. "Bank lending behavior and business cycle under Basel regulations: Is there a significant procyclicality?," Working Papers 2018-06, Swansea University, School of Management.
    15. Sengupta, Rajdeep & Black, Lamont K. & Floros , Ioannis, 2016. "Raising capital when the going gets tough: U.S. bank equity issuance from 2001 to 2014," Research Working Paper RWP 16-5, Federal Reserve Bank of Kansas City.
    16. repec:bla:intfin:v:19:y:2016:i:3:p:333-352 is not listed on IDEAS
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    18. Juliane Begenau, 2015. "Capital Requirements, Risk Choice, and Liquidity Provision in a Business Cycle Model," 2015 Meeting Papers 687, Society for Economic Dynamics.
    19. repec:eee:finsta:v:30:y:2017:i:c:p:36-52 is not listed on IDEAS
    20. Hong Chen & Murray Frank, 2016. "Are Direct Investments by the Federal Reserve a Good Idea? A Corporate Finance Perspective," Quarterly Journal of Finance (QJF), World Scientific Publishing Co. Pte. Ltd., vol. 6(03), pages 1-48, September.

    More about this item

    Keywords

    Deposit finance; bankruptcy costs; bank diversification;

    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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