Universal Banking Under Bilateral Information Asymmetry

Posted: 8 Mar 2003

See all articles by Sanjay Banerji

Sanjay Banerji

Durham University - Durham Business School

Andrew H. Chen

affiliation not provided to SSRN

Sumon C. Mazumdar

Law and Economics Consulting Group (LECG), LLC; University of California, Berkeley - Haas School of Business

Abstract

The Gramm-Leach-Bliley (GLB) Act of 1999 repealed many provisions of the Glass-Steagall Act that curtailed competition between banks and commercial firms. Significantly, however, the GLB Act did not repeal the constraint on banks from owning equity in commercial firms ("universal banking"). Should banks be allowed to hold equity in corporate borrowers? If allowed, would banks optimally choose to do so? Despite its relevance from a policy perspective, there are surprisingly few theoretical analyses of this issue of "universal banking". We develop a model in which the bank's advisory role as an "inside" shareholder hinges on its equity stake. The optimal capital structure and the bank's and entrepreneur's equity stakes are endogenously determined in a world with potential double-sided moral hazard. In certain scenarios, the bank may prefer not to hold any equity. Our analysis indicates that allowing optimal bank equity participation may foster improved corporate performance. This benefit of universal banking should be considered in policy debates.

Keywords: Universal banking, bilateral information asymmetry, double-sided moral hazard, capital structure

Suggested Citation

Banerji, Sanjay and Chen, Andrew H. and Mazumdar, Sumon C., Universal Banking Under Bilateral Information Asymmetry. Available at SSRN: https://ssrn.com/abstract=382964

Sanjay Banerji (Contact Author)

Durham University - Durham Business School ( email )

Mill Hill Lane
Durham, Durham DH1 3LB
United Kingdom
+44-191-334-6336 (Phone)
+44-191-334-6341 (Fax)

Andrew H. Chen

affiliation not provided to SSRN

Sumon C. Mazumdar

Law and Economics Consulting Group (LECG), LLC ( email )

2000 Powell Street, Suite 600
Emeryville, CA 94608
United States
510-450-5493 (Phone)

University of California, Berkeley - Haas School of Business

Finance Department
Berkeley, CA 94720
United States

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