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Uncertainty as commitment

Author

Listed:
  • Jaromir Nosal

    (Columbia University)

  • Guillermo Ordoñez

    (University of Pennsylvania and NBER)

Abstract

Time-inconsistency of no-bailout policies can create incentives for banks to take excessive risks and generate endogenous crises when the government cannot commit. However, at the outbreak of financial problems, usually the government is uncertain about their nature, and hence it may delay intervention to learn more about them. We show that intervention delay leads to strategic restraint: banks endogenously restrict the riskiness of their portfolio relative to their peers in order to avoid being the worst performers and bearing the cost of such delay. These novel forces help to avoid endogenous crises even when the government cannot commit. We analyze the effect of government policies from the perspective of this new result.

Suggested Citation

  • Jaromir Nosal & Guillermo Ordoñez, 2013. "Uncertainty as commitment," NBP Working Papers 141, Narodowy Bank Polski, Economic Research Department.
  • Handle: RePEc:nbp:nbpmis:141
    as

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    File URL: http://www.nbp.pl/publikacje/materialy_i_studia/141_en.pdf
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    References listed on IDEAS

    as
    1. Javier Bianchi, 2016. "Efficient Bailouts?," American Economic Review, American Economic Association, vol. 106(12), pages 3607-3659, December.
    2. Acharya, Viral V. & Yorulmazer, Tanju, 2007. "Too many to fail--An analysis of time-inconsistency in bank closure policies," Journal of Financial Intermediation, Elsevier, vol. 16(1), pages 1-31, January.
    3. Bengt Holmstrom & Jean Tirole, 1998. "Private and Public Supply of Liquidity," Journal of Political Economy, University of Chicago Press, vol. 106(1), pages 1-40, February.
    4. Cukierman, Alex & Izhakian, Yehuda, 2015. "Bailout uncertainty in a microfounded general equilibrium model of the financial system," Journal of Banking & Finance, Elsevier, vol. 52(C), pages 160-179.
    5. Emmanuel Farhi & Jean Tirole, 2012. "Collective Moral Hazard, Maturity Mismatch, and Systemic Bailouts," American Economic Review, American Economic Association, vol. 102(1), pages 60-93, February.
    6. Perotti, Enrico C. & Suarez, Javier, 2002. "Last bank standing: What do I gain if you fail?," European Economic Review, Elsevier, vol. 46(9), pages 1599-1622, October.
    7. Ing-Haw Cheng & Konstantin Milbradt, 2012. "The Hazards of Debt: Rollover Freezes, Incentives, and Bailouts," Review of Financial Studies, Society for Financial Studies, vol. 25(4), pages 1070-1110.
    8. Bryan Kelly & Hanno Lustig & Stijn Van Nieuwerburgh, 2016. "Too-Systemic-to-Fail: What Option Markets Imply about Sector-Wide Government Guarantees," American Economic Review, American Economic Association, vol. 106(6), pages 1278-1319, June.
    9. Juan D. Carrillo & Thomas Mariotti, 2000. "Strategic Ignorance as a Self-Disciplining Device," Review of Economic Studies, Oxford University Press, vol. 67(3), pages 529-544.
    10. Todd Keister, 2016. "Bailouts and Financial Fragility," Review of Economic Studies, Oxford University Press, vol. 83(2), pages 704-736.
    11. Xavier Freixas, 1999. "Optimal Bail Out Policy, Conditionality and Creative Ambiguity," FMG Discussion Papers dp327, Financial Markets Group.
    Full references (including those not matched with items on IDEAS)

    Citations

    Blog mentions

    As found by EconAcademics.org, the blog aggregator for Economics research:
    1. A hesitant government may have good aspects
      by Economic Logician in Economic Logic on 2013-03-15 19:42:00

    Citations

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    as


    Cited by:

    1. Javier Bianchi, 2016. "Efficient Bailouts?," American Economic Review, American Economic Association, vol. 106(12), pages 3607-3659, December.
    2. Allen, Franklin & Carletti, Elena & Goldstein, Itay & Leonello, Agnese, 2015. "Government Guarantees and Financial Stability," CEPR Discussion Papers 10560, C.E.P.R. Discussion Papers.
    3. Facundo Piguillem & Alessandro Riboni, 2015. "Spending-Biased Legislators: Discipline Through Disagreement," The Quarterly Journal of Economics, Oxford University Press, vol. 130(2), pages 901-949.
    4. Todd Keister, 2016. "Bailouts and Financial Fragility," Review of Economic Studies, Oxford University Press, vol. 83(2), pages 704-736.
    5. repec:eee:moneco:v:89:y:2017:i:c:p:51-67 is not listed on IDEAS
    6. Ernesto Pastén, 2014. "Bailouts and Prudential Policies - A Delicate Interaction," Working Papers Central Bank of Chile 743, Central Bank of Chile.
    7. Guillermo Ordonez & Selman Erol, 2017. "Network Reactions to Banking Regulations," 2017 Meeting Papers 1125, Society for Economic Dynamics.
    8. Farhi, Emmanuel & Tirole, Jean, 2015. "Deadly Embrace: Sovereign and Financial Balance Sheets Doom Loops," CEPR Discussion Papers 11024, C.E.P.R. Discussion Papers.
    9. Bengui, Julien & Bianchi, Javier & Coulibaly, Louphou, 2016. "Financial Safety Nets," Staff Report 535, Federal Reserve Bank of Minneapolis.
    10. De Caux, Robert & McGroarty, Frank & Brede, Markus, 2017. "The evolution of risk and bailout strategy in banking systems," Physica A: Statistical Mechanics and its Applications, Elsevier, vol. 468(C), pages 109-118.

    More about this item

    Keywords

    bailouts; commitment; liquidity; banking; government policy; regulation;

    JEL classification:

    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation
    • E61 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Policy Objectives; Policy Designs and Consistency; Policy Coordination

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