A Diamond-Dybvig Model Without Bank Run: The Power of Signaling
17 Pages Posted: 22 Nov 2010 Last revised: 15 Dec 2010
Date Written: November 21, 2010
This paper introduces the possibility of signaling into a finite-depositor version of the Diamond-Dybvig model. More precisely, the decision to keep the funds in the bank is assumed to be unobservable, but depositors are allowed to make it observable by signaling, at a cost. Depositors decide consecutively whether to withdraw their funds or continue holding balances in the bank, and they choose if they want to signal the latter decision. If the cost of signaling is moderate, then bank runs do not occur. Moreover, no signals are made, so the unconstrained-efficient allocation is implemented without any costs.
Keywords: bank run, sequential game, signaling, iterated deletion of strictly dominated strategies, coordination
JEL Classification: C72, D82, G21
Suggested Citation: Suggested Citation