The Effects of Closure Policies on Bank Risk-Taking

Posted: 26 Oct 2008

See all articles by Sally M. Davies

Sally M. Davies

Board of Governors of the Federal Reserve System

Douglas A. McManus

Federal Home Loan Mortgage Corporation (FHLMC)

Date Written: October 25, 2008

Abstract

This paper models bank closure policy for a risk-averse bank that enjoys flat-rate deposit insurance. We find that increasing the level of net worth at which banks are closed can increase or decrease induced risk aversion, as well as increase the likelihood that marginally healthy banks would be subject to extreme moral hazard. These result suggest that more timely closure policies should be imposed in conjunction with greater monitoring of bank portfolio risk and with restrictions on risk-taking for marginally healthy banks. In addition, we find that changes in closure policy can increase or decrease desired leverage and that this effect depends on the degree of correlation among asset returns.

Keywords: bank regulation, moral hazard

JEL Classification: G21, G28

Suggested Citation

Davies, Sally M. and McManus, Douglas A., The Effects of Closure Policies on Bank Risk-Taking (October 25, 2008). Journal of Banking and Finance, Vol. 15, Nos. 4-5, 1991, Available at SSRN: https://ssrn.com/abstract=1289831

Sally M. Davies

Board of Governors of the Federal Reserve System ( email )

20th Street and Constitution Avenue NW
Washington, DC 20551
United States
202-452-2908 (Phone)
202-452-6424 (Fax)

Douglas A. McManus (Contact Author)

Federal Home Loan Mortgage Corporation (FHLMC) ( email )

8200 Jones Branch Road
McLean, VA 22101
United States
703-903-2953 (Phone)

Here is the Coronavirus
related research on SSRN

Paper statistics

Abstract Views
415
PlumX Metrics