Bail-In vs Bail-Out: Bank Resolution and Liability Structure
56 Pages Posted: 17 Feb 2019 Last revised: 30 Sep 2019
Date Written: September 25, 2019
What is the joint impact of different resolution regimes and capital requirements on the optimal liability structure of a bank holding insured deposits and issuing non-bail-inable debt and bail-inable Tier1-capital debt? We address this novel question and find that: 1) a credible bail-in resolution regime rules out extreme leverage and creates value by postponing default; 2) a positive probability of bail-out destroys credibility with dramatic effects on financial risk-taking, to the point of reversing the classical positive link between optimal leverage and growth prospects; and 3) a strict enforcement of the Basel III CET1 capital requirement strongly mitigates the impact of a non-credible resolution regime.
Keywords: Bank Capital Structure, Endogenous Default, Bail-In, Bail-Out
JEL Classification: G01, G21, G28, G32, G33
Suggested Citation: Suggested Citation