A mathematical treatment of bank monitoring incentives

H. Pag s and D. Possamai
Authors registered in the RePEc Author Service: Henri F. Pagès ()

Working papers from Banque de France

Abstract: In this paper, we take up the analysis of a principal/agent model with moral hazard introduced in [15], with optimal contracting between a competitive investor and an impatient bank monitoring a pool of long-term loans subject to Markovian contagion. We provide here a comprehensive mathematical formulation of the model and show using martingale arguments in the spirit of Sannikov [17] how the maximization problem with implicit constraints faced by investors can be reduced to a classic stochastic control problem. The approach has the advantage of avoiding the more general techniques based on forward-backward stochastic differential equations described in [6] and leads to a simple recursive system of Hamilton-Jacobi-Bellman equations. We provide a solution to our problem by a verification argument and give an explicit description of both the value function and the optimal contract. Finally, we study the limit case where the bank is no longer impatient.

Keywords: Default Correlation; Dynamic Moral Hazard; Forward-Backward Stochastic Differential Equations. (search for similar items in EconPapers)
JEL-codes: G21 G28 G32 (search for similar items in EconPapers)
Pages: 38 pages
Date: 2012
New Economics Papers: this item is included in nep-ban and nep-cta
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (1)

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Related works:
Working Paper: A mathematical treatment of bank monitoring incentives (2015)
Journal Article: A mathematical treatment of bank monitoring incentives (2014)
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Persistent link: https://EconPapers.repec.org/RePEc:bfr:banfra:378

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