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Unobservable savings, risk sharing and default in the financial system

  • Panetti, Ettore
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    In the present paper, I analyze how unobservable savings affect risk sharing and bankruptcy decisions in the financial system. I extend the Diamond and Dybvig (1983) model of financial intermediation to an environment with heterogeneous intermediaries, aggregate uncertainty and agents' hidden borrowing and lending. I demonstrate three results. First, unobservability imposes a burden on financial intermediaries, that in equilibrium are not able to offer a banking contract that balances insurance and incentive motivations. Second, unobservable markets do induce default, but only as long as insurance markets are incomplete. Therefore, their presence is not a rationale for government intervention on bankruptcy via "resolution regimes". Third, even in case of complete markets the competitive equilibrium is inefficient, and a simple tier-1 capital ratio similar to the one proposed in the Basel III Accord implements the efficient allocation.

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    File URL: https://mpra.ub.uni-muenchen.de/29542/1/MPRA_paper_29542.pdf
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    Paper provided by University Library of Munich, Germany in its series MPRA Paper with number 29542.

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    Date of creation: 10 Feb 2011
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    Handle: RePEc:pra:mprapa:29542
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    1. Emmanuel Farhi & Mikhail Golosov & Aleh Tsyvinski, 2007. "A Theory of Liquidity and Regulation of Financial Intermediation," NBER Working Papers 12959, National Bureau of Economic Research, Inc.
    2. Jean Tirole & Emmanuel Farhi, 2009. "Collective Moral Hazard, Maturity Mismatch and Systemic Bailouts," Working Papers 2009.57, Fondazione Eni Enrico Mattei.
    3. Acharya, Viral V & Mehran, Hamid & Thakor, Anjan, 2012. "Caught between Scylla and Charybdis? Regulating bank leverage when there is rent-seeking and risk-shifting," CEPR Discussion Papers 8822, C.E.P.R. Discussion Papers.
    4. Pozsar, Zoltan & Adrian, Tobias & Ashcraft, Adam B. & Boesky, Hayley, 2013. "Shadow banking," Economic Policy Review, Federal Reserve Bank of New York, issue Dec, pages 1-16.
      • Zoltan Pozsar & Tobias Adrian & Adam B. Ashcraft & Hayley Boesky, 2010. "Shadow banking," Staff Reports 458, Federal Reserve Bank of New York.
    5. Panetti, Ettore, 2011. "Financial liberalization and contagion with unobservable savings," MPRA Paper 29540, University Library of Munich, Germany.
    6. Franklin Allen & Douglas Gale, 2003. "Financial Intermediaries and Markets," Center for Financial Institutions Working Papers 00-44, Wharton School Center for Financial Institutions, University of Pennsylvania.
    7. Mikhail Golosov & Aleh Tsyvinski, 2005. "Optimal Taxation with Endogenous Insurance Markets," NBER Working Papers 11185, National Bureau of Economic Research, Inc.
    8. Gary Gorton, 1986. "Banking panics and business cycles," Working Papers 86-9, Federal Reserve Bank of Philadelphia.
    9. Narayana Kocherlakota, 2004. "The New Dynamic Public Finance," Annual Meeting Plenary 2004-3, Society for Economic Dynamics.
    10. Harold L Cole & Narayana Kocherlakota, 2010. "Efficient Allocations with Hidden Income and Hidden Storage," Levine's Working Paper Archive 1909, David K. Levine.
    11. Mikhail Golosov & Aleh Tsyvinski, 2007. "Optimal Taxation with Endogenous Insurance Markets," The Quarterly Journal of Economics, Oxford University Press, vol. 122(2), pages 487-534.
    12. Panetti, Ettore, 2014. "Financial liberalization and contagion with unobservable savings," International Review of Financial Analysis, Elsevier, vol. 36(C), pages 20-35.
    13. Laurence Ales & Pricila Maziero, . "Non-exclusive Dynamic Contracts, Competition, and the Limits of Insurance," GSIA Working Papers 2010-E59, Carnegie Mellon University, Tepper School of Business.
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