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Banks' equity stakes in borrowing firms: A corporate finance approach

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  • Jukka Vauhkonen

    (Bank of Finland)

Abstract

In most countries, banks’ equity holdings in firms that borrow from then are rather small. In light of the theoretical literature, this is somewhat surprising. For example, according to agency cost models, allowing banks to hold equity would seem to alleviate firms’ asset substitution moral hazard problem associated with debt financing. This idea is formalised in John, John, and Saunders in a model where banks are modeled as passive investors and bank loans are the only source of outside finance for firms. In this paper, we argue that this alleged benefit of banks’ equity holding is small or non-existent when banks are modeled explicitly as active monitors and firms have access also to market finance.

Suggested Citation

  • Jukka Vauhkonen, 2004. "Banks' equity stakes in borrowing firms: A corporate finance approach," Game Theory and Information 0404003, EconWPA.
  • Handle: RePEc:wpa:wuwpga:0404003
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    File URL: http://econwpa.repec.org/eps/game/papers/0404/0404003.pdf
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    References listed on IDEAS

    as
    1. Samu Peura & Esa Jokivuolle, 2004. "Simulation-based stress testing of banks’ regulatory capital adequacy," Finance 0405003, EconWPA.
    2. Hasan, Iftekhar & Schmiedel, Heiko, 2003. "Do networks in the stock exchange industry pay off? : European evidence," Research Discussion Papers 2/2003, Bank of Finland.
    3. Takalo, Tuomas & Toivanen, Otto, 2003. "Equilibrium in financial markets with adverse selection," Research Discussion Papers 6/2003, Bank of Finland.
    4. George W. Evans & Seppo Honkapohja, 2003. "Friedman's Money Supply Rule vs. Optimal Interest Rate Policy," Scottish Journal of Political Economy, Scottish Economic Society, vol. 50(5), pages 550-566, November.
    Full references (including those not matched with items on IDEAS)

    More about this item

    Keywords

    banks’ equity holdings; firms’ capital structure; social welfare;

    JEL classification:

    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill

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