Which bank resolution mechanisms are ex-post efficient
In this paper Hryckiewicz et al. study the effectiveness of two resolution methods: a sale of bank assets through a merger and a “bad-bank” mechanism and compare them with a bailout, i.e., nationalization of the troubled bank. For their theoretical analysis they incorporate the three resolution methods into a model of financial fragility used by policy makers in order to study tradeoffs between bank performance and financial stability. For the empirical analysis, the authors use a novel bank-level database to empirically assess the impact of different resolution mechanisms across 39 countries on almost 1,000 banks, of which 215 were subject to government resolution mechanisms. They analyze the effectiveness of those resolution mechanisms in regards to banks’ lending, their capital and reserves-to-NPL positions in comparison to their peers that were not subject to intervention. their findings include:
- A resolution via a merger does not seem to yield positive results in the event of a severe crisis, as the financial condition of the acquirer is likely to be severely impacted by the losses of the acquired bank.
- In the event of a severe financial crisis, bank recapitalization coupled with deep asset restructuring delivers the best results.
- Bailouts yield the least positive results as this form of intervention is negatively related to capital ratio even several years after the government action has taken place. In addition, uncertainty with regards to asset quality seems to encourage banks to engage in “zombie lending.”
New Bank Resolution Mechanisms: Is It the End of the Bailout Era?
Authors: Aneta Hryckiewicz, Natalia Kryg, Dimitrios P. Tsomocos
From: Goethe University of Frankfurt, European Bank for Reconstruction and Development (EBRD), University of Oxford
How to solve the too-big-to-fail conundrum
What if bailout funds are not distributed in a symmetric way across banks? This is the assumption that Philippon and Wang explore in this paper to study whether there is a way for bailouts not to lead to moral hazard. They use a systemic risk model where the negative externality on the real economy depends on the aggregate capital shortfall in the banking system. They find:
In stark contrast to the conventional results, we then show that we can implement the first best equilibrium by conditioning government support on a relative performance mechanism such as a rank-order tournament, in which banks performing above the median get a higher m [amount of bailout payment] than banks performing below the median. The scheme is fully time consistent since it takes as given the overall size of the bailout. Punishing the banks that perform poorly while rewarding those who perform well works because, despite knowing that the median bank will be saved, each individual bank strives to make sure it does not end up in the lower half. This race to the top generate first best ex ante incentives for all the banks.
Let the Worst One Fail: A Credible Solution to the Too-Big-To-Fail Conundrum
Authors: Thomas Philippon, Olivier Wang
From: New York University
