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Confusion as Commitment

Listed author(s):
  • Guillermo Ordonez

    (Yale University)

  • Jaromir Nosal

    (Columbia University)

In this paper, we argue that government confusion about the nature of the shock to the economy when observing banks in distress has the potential to relax the time inconsistency of policymakers and the ensuing collective moral hazard that leads to endogenous systemic events. Government confusion lowers the expected benefit from intervention and may lead to a delay, for the purpose of learning more about the nature of the shock. This hinders strategic coordination and leads to what we call strategic restraint, as banks endogenously restrict the riskiness of their portfolio in relative to their peers in order to avoid being the worst performers. From the perspective of these novel forces, we analyze the optimality of government intervention and regulation.

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File URL: https://economicdynamics.org/meetpapers/2012/paper_1026.pdf
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Paper provided by Society for Economic Dynamics in its series 2012 Meeting Papers with number 1026.

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Date of creation: 2012
Handle: RePEc:red:sed012:1026
Contact details of provider: Postal:
Society for Economic Dynamics Marina Azzimonti Department of Economics Stonybrook University 10 Nicolls Road Stonybrook NY 11790 USA

Web page: http://www.EconomicDynamics.org/
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