Bail-Ins and Bail-Outs: Incentives, Connectivity, and Systemic Stability

54 Pages Posted: 6 Sep 2017

See all articles by Benjamin Bernard

Benjamin Bernard

University of California, Los Angeles (UCLA) - Department of Economics

Agostino Capponi

Columbia University

Joseph E. Stiglitz

Columbia Business School - Finance and Economics; National Bureau of Economic Research (NBER)

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Date Written: August 2017

Abstract

This paper endogenizes intervention in financial crises as the strategic negotiation between a regulator and creditors of distressed banks. Incentives for banks to contribute to a voluntary bail-in arise from their exposure to credit and price-mediated contagion. In equilibrium, a bail-in is possible only if the regulator's threat to not bail out insolvent banks is credible. Contrary to models without intervention or government bailouts only, sparse networks are beneficial in our model for two main reasons: they improve the credibility of the regulator's no-bailout threat for large shocks and they reduce free-riding incentives among bail-in contributors when the threat is credible.

Suggested Citation

Bernard, Benjamin and Capponi, Agostino and Stiglitz, Joseph E., Bail-Ins and Bail-Outs: Incentives, Connectivity, and Systemic Stability (August 2017). NBER Working Paper No. w23747. Available at SSRN: https://ssrn.com/abstract=3031718

Benjamin Bernard (Contact Author)

University of California, Los Angeles (UCLA) - Department of Economics ( email )

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Agostino Capponi

Columbia University ( email )

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Joseph E. Stiglitz

Columbia Business School - Finance and Economics ( email )

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