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Interbank network and bank bailouts: Insurance mechanism for non-insured creditors?

  • Eisert, Tim
  • Eufinger, Christian

This paper presents a theory that explains why it is beneficial for banks to be highly interconnected on the interbank market. Using a simple network structure, it shows that, if there is a non-zero bailout probability, banks can significantly increase the expected repayment of uninsured creditors by entering into cyclical liabilities on the interbank market before investing in loan portfolios. Therefore, banks are better able to attract funds from uninsured creditors. Our results show that implicit government guarantees incentivize banks to have large interbank exposures, to be highly interconnected, and to invest in highly correlated, risky portfolios.

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File URL: http://econstor.eu/bitstream/10419/88737/1/775688738.pdf
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Paper provided by Research Center SAFE - Sustainable Architecture for Finance in Europe, Goethe University Frankfurt in its series SAFE Working Paper Series with number 10.

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Date of creation: 2013
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Handle: RePEc:zbw:safewp:10
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  1. Douglas W. Diamond & Raghuram G. Rajan, 2002. "Bank Bailouts and Aggregate Liquidity," American Economic Review, American Economic Association, vol. 92(2), pages 38-41, May.
  2. Rochet, Jean-Charles & Tirole, Jean, 1996. "Interbank Lending and Systemic Risk," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 28(4), pages 733-62, November.
  3. Gary Gorton & Lixin Huang, 2002. "Liquidity, Efficiency and Bank Bailouts," NBER Working Papers 9158, National Bureau of Economic Research, Inc.
  4. Xavier Freixas, 2005. "Interbank Market Integration under Asymmetric Information," Review of Financial Studies, Society for Financial Studies, vol. 18(2), pages 459-490.
  5. Jeannette Müller, 2006. "Interbank Credit Lines as a Channel of Contagion," Journal of Financial Services Research, Springer, vol. 29(1), pages 37-60, February.
  6. Soramäki, Kimmo & Bech, Morten L. & Arnold, Jeffrey & Glass, Robert J. & Beyeler, Walter E., 2007. "The topology of interbank payment flows," Physica A: Statistical Mechanics and its Applications, Elsevier, vol. 379(1), pages 317-333.
  7. Sandro Brusco & Fabio Castiglionesi, 2007. "Liquidity Coinsurance, Moral Hazard, and Financial Contagion," Journal of Finance, American Finance Association, vol. 62(5), pages 2275-2302, October.
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