Ending "Too Big To Fail": Government Promises vs. Investor Perceptions

Todd A. Gormley, Simon Johnson and Changyong Rhee

No 17518, NBER Working Papers from National Bureau of Economic Research, Inc

Abstract: Can a government credibly promise not to bailout firms whose failure would have major negative systemic consequences? Our analysis of Korea's 1997-99 crisis, suggests an answer: No. Despite a general "no bailout" policy during the crisis, the largest Korean corporate groups (chaebol) - facing severe financial and governance problems - could still borrow heavily from households through issuing bonds at prices implying very low expected default risk. The evidence suggests "too big to fail" beliefs were not eliminated by government promises, presumably because investors believed that this policy was not time consistent. Subsequent government handling of potential and actual defaults by Daewoo and Hyundai confirmed the market view that creditors would be protected.

JEL-codes: E44 G18 G21 G3 (search for similar items in EconPapers)
Date: 2011-10
New Economics Papers: this item is included in nep-ban, nep-cba, nep-cis and nep-mac
Note: CF EFG IFM POL
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Published as T. A. Gormley & S. Johnson & C. Rhee, 2015. "Ending "Too Big To Fail": Government Promises Versus Investor Perceptions," Review of Finance, vol 19(2), pages 491-518.

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