Informational Rents, Macroeconomic Rents, and Efficient Bailouts

Abstract:     
We analyze government interventions to alleviate debt overhang among banks. Interventions generate two types of rents. Informational rents arise from opportunistic participation based on private information while macroeconomic rents arise from free riding. Minimizing informational rents is a security design problem and we show that warrants and preferred stocks are the optimal instruments. Minimizing macroeconomic rents requires the government to condition implementation on sufficient participation. Informational rents always impose a cost, but if macroeconomic rents are large, efficient recapitalizations can be profitable.

Number of Pages in PDF File: 57

Keywords: bailouts, crises, debt overhang, recapitalization

JEL Classification: G01, G2, G28, G33, G38, H0, H2, H81

working papers series