Bank Bailouts, Bail-Ins, or No Regulatory Intervention? A Dynamic Model and Empirical Tests of Optimal Regulation

71 Pages Posted: 24 May 2018 Last revised: 1 Aug 2019

See all articles by Allen N. Berger

Allen N. Berger

University of South Carolina - Darla Moore School of Business; Wharton Financial Institutions Center; European Banking Center

Charles P. Himmelberg

Goldman, Sachs & Co.

Raluca A. Roman

Federal Reserve Bank of Philadelphia

Sergey Tsyplakov

University of South Carolina - Darla Moore School of Business

Date Written: July 30, 2019

Abstract

We develop a dynamic model of bank capital structure under three optimally-designed regulatory regimes to deal with potential bank default. These are bailout, where government provides capital; bail-in, with private-sector funds; and no regulatory intervention, allowing failure. We find that only under optimally-designed bail-in do banks recapitalize during distress. Their pre-commitment to recapitalize reduces debt costs and increases debt capacity. Additionally, no regulatory intervention is suboptimal for all agents relative to other regimes. Empirical tests of changes in bank capital ratios and speeds of adjustment when shifting from the pre-crisis bailout regime to the post-crisis bail-in regime corroborate model predictions.

Keywords: Banks, Bailouts, Bail-Ins, OLA, Bankruptcy, Regulation, Capital Structure

JEL Classification: G21, G28

Suggested Citation

Berger, Allen N. and Himmelberg, Charles P. and Roman, Raluca A. and Tsyplakov, Sergey, Bank Bailouts, Bail-Ins, or No Regulatory Intervention? A Dynamic Model and Empirical Tests of Optimal Regulation (July 30, 2019). Available at SSRN: https://ssrn.com/abstract=3179226 or http://dx.doi.org/10.2139/ssrn.3179226

Allen N. Berger

University of South Carolina - Darla Moore School of Business ( email )

1705 College St
Francis M. Hipp Building
Columbia, SC 29208
United States
803-576-8440 (Phone)
803-777-6876 (Fax)

Wharton Financial Institutions Center

Philadelphia, PA 19104-6367
United States

European Banking Center

P.O. Box 90153
Tilburg, 5000 LE
Netherlands

Charles P. Himmelberg

Goldman, Sachs & Co. ( email )

200 West St
New York, NY 10233
917-343-3218 (Phone)

Raluca A. Roman (Contact Author)

Federal Reserve Bank of Philadelphia ( email )

Ten Independence Mall
Philadelphia, PA 19106-1574
United States

Sergey Tsyplakov

University of South Carolina - Darla Moore School of Business ( email )

Francis M. Hipp Building
Finance Department
Columbia, SC 29208
United States
803-777-4669 (Phone)
803-777-6876 (Fax)

HOME PAGE: http://dmsweb.moore.sc.edu/tsyplakov/

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