Disclosure of Bank-specific Information and the Stability of Financial Systems

Abstract

We find that disclosing bank-specific information reallocates systemic risk, but whether it mitigates systemic bank runs depends on the information disclosed. Disclosure reveals banks' resilience to adverse shocks, and shifts systemic risk from weak to strong banks. Yet, only disclosure of banks' exposure to systemic risk can mitigate systemic bank runs because it shifts systemic risk from more vulnerable banks to those less vulnerable. Optimal disclosure thus maximally differentiates such exposure, provided that banks experience runs simultaneously, if inevitable. Disclosure of banks' idiosyncratic factors does not differentiate such exposure, rendering the resulting reallocation of systemic risk ineffective in mitigating systemic runs. In the context of disclosing stress-test results, when the quality of the banking system deteriorates, the regulator may have to face a sudden run on a huge mass of banks rather than gradually abandoning weak banks.

Keywords: information design, coordination game, financial stability

JEL Classification: G01, G21, G28