Equity Versus Bail-In Debt in Banking: An Agency Perspective

46 Pages Posted: 26 Jun 2017

See all articles by Caterina Mendicino

Caterina Mendicino

Bank of Portugal; European Central Bank (ECB) - Directorate General Research

Kalin Nikolov

European Central Bank (ECB)

Javier Suarez

Centre for Monetary and Financial Studies (CEMFI); Centre for Economic Policy Research (CEPR); European Corporate Governance Institute (ECGI)

Date Written: June 2017

Abstract

We examine the optimal size and composition of banks' total loss absorbing capacity (TLAC). Optimal size is driven by the trade-off between providing liquidity services through deposits and minimizing deadweight default costs. Optimal composition (equity vs. bail-in debt) is driven by the relative importance of two incentive problems: risk shifting (mitigated by equity) and private benefit taking (mitigated by debt). Our quantitative results suggest that TLAC size in line with current regulation is appropriate. However, an important fraction of it should consist of bail-in debt because such buffer size makes the costs of risk-shifting relatively less important at the margin.

Keywords: agency problems, bail-in debt, Bank Regulation, loss absorbing capacity, risk shifting

JEL Classification: G21, G28, G32

Suggested Citation

Mendicino, Caterina and Nikolov, Kalin and Suarez, Javier, Equity Versus Bail-In Debt in Banking: An Agency Perspective (June 2017). CEPR Discussion Paper No. DP12104. Available at SSRN: https://ssrn.com/abstract=2992534

Caterina Mendicino (Contact Author)

Bank of Portugal ( email )

Rua Francisco Ribeiro, 2
Lisbon, 1150-165
Portugal

European Central Bank (ECB) - Directorate General Research ( email )

Kaiserstrasse 29
D-60311 Frankfurt am Main
Germany

Kalin Nikolov

European Central Bank (ECB) ( email )

Sonnemannstrasse 22
Frankfurt am Main, 60314
Germany

Javier Suarez

Centre for Monetary and Financial Studies (CEMFI) ( email )

Casado del Alisal 5
28014 Madrid
Spain
+34 91 429 0551 (Phone)
+34 91 429 1056 (Fax)

Centre for Economic Policy Research (CEPR)

London
United Kingdom

European Corporate Governance Institute (ECGI)

c/o ECARES ULB CP 114
B-1050 Brussels
Belgium

HOME PAGE: http://www.ecgi.org

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