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The Risky Lending Gap

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  • Gregory Connor

    (Economics,Finance & Accounting, National University of Ireland, Maynooth)

Abstract

This paper develops a simple model of the gap between socially and privately optimal bank lending when a bank has an overhang of impaired loans, and analyzes government policies designed to close this gap. The impaired loans have risky cash flows but observable market values. A number of basic concepts are explicated including the risky lending gap,the capital component and asset risk component of the risky lending gap, capital injections versus asset purchases as policy tools, decomposition of the effects of asset purchases into loan substitution and risk absorption effects, the supply schedule of risky lending, the no-lending trap, and a risk-capital metric for comparing the various policy choices. The model is calibrated to match the current Irish banking environment and some tentative policy implications are suggested.

Suggested Citation

  • Gregory Connor, 2009. "The Risky Lending Gap," Economics Department Working Paper Series n2010809.pdf, Department of Economics, National University of Ireland - Maynooth.
    • Handle: RePEc:may:mayecw:n2010809.pdf
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    File URL: http://repec.maynoothuniversity.ie/mayecw-files/N2010809.pdf
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