Are Traditional and Shadow Banks Symbiotic?

Fisher College of Business Working Paper No. 2019-03-011

Charles A. Dice Working Paper No. 2019-11

57 Pages Posted: 24 Apr 2019 Last revised: 1 May 2020

See all articles by Edouard Chretien

Edouard Chretien

National Institute of Statistics and Economic Studies (INSEE) - Center for Research in Economics and Statistics (CREST)

Victor Lyonnet

Ohio State University (OSU)

Date Written: May 1, 2020

Abstract

This paper documents how traditional and shadow banks interacted with one another during the 2007 financial crisis, when both assets and liabilities flew from shadow to traditional banks. To rationalize their behavior, we propose a simple model which demonstrates the symbiotic coexistence and mutual reliance of traditional and shadow banks through their interaction in a crisis. In our model, shadow banks escape the costly regulation traditional banks must comply with, but give up deposit insurance, which traditional banks can rely upon. Without deposit insurance, shadow banks repay their creditors in a crisis by selling assets at fire-sale prices to traditional banks. By using deposit insurance to purchase these assets, traditional banks are able to generate enough profit to offset their regulatory costs. The model allows us to study the (unintended) consequences of regulations for traditional banks on the shadow banking sector.

Keywords: Traditional banks, Shadow banks, Financial crisis, Deposit insurance

JEL Classification: E32, E44, E61, G01, G21, G23, G38

Suggested Citation

Chretien, Edouard and Lyonnet, Victor, Are Traditional and Shadow Banks Symbiotic? (May 1, 2020). Fisher College of Business Working Paper No. 2019-03-011, Charles A. Dice Working Paper No. 2019-11, Available at SSRN: https://ssrn.com/abstract=3376891 or http://dx.doi.org/10.2139/ssrn.3376891

Edouard Chretien

National Institute of Statistics and Economic Studies (INSEE) - Center for Research in Economics and Statistics (CREST) ( email )

15 Boulevard Gabriel Peri
Malakoff Cedex, 1 92245
France

Victor Lyonnet (Contact Author)

Ohio State University (OSU) ( email )

Columbus, OH 43210
United States

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