Sophistication in Risk Management, Bank Equity, and Stability

33 Pages Posted: 23 May 2008

See all articles by Hans Gersbach

Hans Gersbach

ETH Zurich - CER-ETH -Center of Economic Reseaarch; IZA Institute of Labor Economics; CESifo (Center for Economic Studies and Ifo Institute); Centre for Economic Policy Research (CEPR)

Jan Wenzelburger

Keele University - Center for Economic Research

Multiple version iconThere are 2 versions of this paper

Date Written: June 2007

Abstract

We investigate the question of whether sophistication in risk management fosters banking stability. We compare a simple banking system in which an average rating is used with a sophisticated banking system in which banks are able to assess the default risk of entrepreneurs individually. Both banking systems compete for deposits, loans, and bank equity. While a sophisticated system rewards entrepreneurs with low default risks by low loan interest rates, a simple system acquires more bank equity and finances more entrepreneurs. Expected repayments in a simple system are always higher and its default risk is lower if productivity is sufficiently high. Expected aggregate consumption of entrepreneurs, however, is higher in a sophisticated banking system.

Keywords: banking regulation, Financial intermediation, macroeconomic risks, rating, risk management, risk premia

JEL Classification: D40, E44, G21

Suggested Citation

Gersbach, Hans and Wenzelburger, Jan, Sophistication in Risk Management, Bank Equity, and Stability (June 2007). , Vol. , pp. -, 2007. Available at SSRN: https://ssrn.com/abstract=1136679

Hans Gersbach (Contact Author)

ETH Zurich - CER-ETH -Center of Economic Reseaarch ( email )

Zürichbergstrasse 18
Zurich, 8092
Switzerland
+41 44 632 82 80 (Phone)
+41 44 632 18 30 (Fax)

IZA Institute of Labor Economics

P.O. Box 7240
Bonn, D-53072
Germany

CESifo (Center for Economic Studies and Ifo Institute)

Poschinger Str. 5
Munich, DE-81679
Germany

Centre for Economic Policy Research (CEPR)

London
United Kingdom

Jan Wenzelburger

Keele University - Center for Economic Research ( email )

Keele, Staffordshire ST5 5BG
United Kingdom

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