Sophistication in Risk Management, Bank Equity, and Stability

Hans Gersbach and Jan Wenzelburger ()

No 6353, CEPR Discussion Papers from C.E.P.R. Discussion Papers

Abstract: We investigate the question of whether sophistication in risk management fosters banking stability. We compare a simple banking system in which an average rating is used with a sophisticated banking system in which banks are able to assess the default risk of entrepreneurs individually. Both banking systems compete for deposits, loans, and bank equity. While a sophisticated system rewards entrepreneurs with low default risks by low loan interest rates, a simple system acquires more bank equity and finances more entrepreneurs. Expected repayments in a simple system are always higher and its default risk is lower if productivity is sufficiently high. Expected aggregate consumption of entrepreneurs, however, is higher in a sophisticated banking system.

Keywords: Banking regulation; Financial intermediation; Macroeconomic risks; Rating; Risk management; Risk premia (search for similar items in EconPapers)
JEL-codes: D40 E44 G21 (search for similar items in EconPapers)
Date: 2007-06
New Economics Papers: this item is included in nep-ban, nep-mac, nep-reg and nep-rmg
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Related works:
Journal Article: Sophistication in Risk Management, Bank Equity, and Stability* (2010)
Working Paper: Sophistication in Risk Management, Bank Equity, and Stability (2007)
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