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Market Discipline in Conglomerate Banks: Is an Internal Allocation of Cost of Capital Necessary as an Incentive Device?

  • Arnoud W.A. Boot
  • Anjolein Schmeits

This paper analyzes the optimal conglomeration of bank activities. We show that incentive problems in banking sometimes dictate integration of activities, but with perfect market discipline always push us away from integration/conglomeration. Ineffective market discipline could make conglomeration optimal, even if conglomeration further undermines market discipline. We also show that an internal allocation of the cost of capital could add effective `internal' discipline and improve on the outcome of conglomeration. The analysis is subsequently applied to the Barings debacle. This paper was presented at the Financial Institutions Center's October 1996 conference on "

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File URL: http://fic.wharton.upenn.edu/fic/papers/96/9639.pdf
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Paper provided by Wharton School Center for Financial Institutions, University of Pennsylvania in its series Center for Financial Institutions Working Papers with number 96-39.

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Date of creation: Oct 1996
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Handle: RePEc:wop:pennin:96-39
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  1. Grossman, Sanford J. & Hart, Oliver D., 1986. "The Costs and Benefits of Ownership: A Theory of Vertical and Lateral Integration," Scholarly Articles 3450060, Harvard University Department of Economics.
  2. Robert H. Gertner & David S. Scharfstein & Jeremy C. Stein, 1994. "Internal versus External Capital Markets," NBER Working Papers 4776, National Bureau of Economic Research, Inc.
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  6. Boot, Arnoud W A & Thakor, Anjan, 1995. "Financial System Architecture," CEPR Discussion Papers 1197, C.E.P.R. Discussion Papers.
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  8. Paolo Fulghieri & Laurie Simon Hodrick, 2006. "Synergies and Internal Agency Conflicts: The Double-Edged Sword of Mergers," Journal of Economics & Management Strategy, Wiley Blackwell, vol. 15(3), pages 549-576, 09.
  9. Holmstrom, Bengt & Tirole, Jean, 1991. "Transfer Pricing and Organizational Form," Journal of Law, Economics and Organization, Oxford University Press, vol. 7(2), pages 201-28, Fall.
  10. Hayne E. Leland and David H. Pyle., 1976. "Informational Asymmetries, Financial Structure, and Financial Intermediation," Research Program in Finance Working Papers 41, University of California at Berkeley.
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  13. Mark J. Flannery, 1991. "Debt maturity and the deadweight cost of leverage: optimally financing banking firms," Proceedings, Federal Reserve Bank of San Francisco, issue Nov.
  14. Jensen, Michael C. & Meckling, William H., 1976. "Theory of the firm: Managerial behavior, agency costs and ownership structure," Journal of Financial Economics, Elsevier, vol. 3(4), pages 305-360, October.
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  16. Sudipto Bhattacharya, 1992. "Financial Intermediation with Proprietary Information," CEPR Financial Markets Paper 0021, European Science Foundation Network in Financial Markets, c/o C.E.P.R, 77 Bastwick Street, London EC1V 3PZ..
  17. Robert C. Merton & André Perold, 1993. "Theory Of Risk Capital In Financial Firms," Journal of Applied Corporate Finance, Morgan Stanley, vol. 6(3), pages 16-32.
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