Unequal and Unstable: Income Inequality and Bank Risk

49 Pages Posted: 20 Jul 2020

See all articles by Yuliyan Mitkov

Yuliyan Mitkov

University of Bonn

Ulrich Schüwer

University of Bonn - Institute for Financial Economics and Statistics; Research Center SAFE at Goethe University Frankfurt

Date Written: June 15, 2020

Abstract

We document that the dispersion of failure risk across banks within a given region in the U.S. is greater in regions that have higher income inequality. We explain this pattern with a model based on risk shifting incentives where banks issue insured deposits and choose the riskiness of their portfolios. In equilibrium: (i) some banks endogenously specialize in safe lending, while others engage in risk shifting and (ii) a competition to risk shift emerges whereby loans to subprime borrowers carry negative NPVs. The dispersion of bank risk generated by this sorting is magnified in more unequal regions with greater subprime credit segments.

Keywords: Inequality, Financial Stability, Agency Costs, Composition of Credit, Banking Competition

JEL Classification: G11, G21, G28, G51

Suggested Citation

Mitkov, Yuliyan and Schüwer, Ulrich, Unequal and Unstable: Income Inequality and Bank Risk (June 15, 2020). Available at SSRN: https://ssrn.com/abstract=3636750 or http://dx.doi.org/10.2139/ssrn.3636750

Yuliyan Mitkov (Contact Author)

University of Bonn ( email )

Regina-Pacis-Weg 3
Postfach 2220
Bonn, D-53012
Germany

Ulrich Schüwer

University of Bonn - Institute for Financial Economics and Statistics ( email )

Adenauerallee 24-42
Bonn, 53113
Germany

HOME PAGE: http://www.finance.uni-bonn.de/

Research Center SAFE at Goethe University Frankfurt ( email )

(http://www.safe-frankfurt.de)
Theodor-W.-Adorno-Platz 3
Frankfurt am Main, 60323
Germany

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