Dollarization, Bailouts and the Stability of the Banking System

Douglas Gale () and Xavier Vives ()

No 2901, CEPR Discussion Papers from C.E.P.R. Discussion Papers

Abstract: Central bank policy suffers from time-inconsistency when facing a banking crisis: A bailout is optimal ex post but ex ante it should be limited to control moral hazard. Dollarization provides a credible commitment not to help at the cost of not helping even when it would be ex ante optimal to do so. Dollarization is preferable when the costs of establishing a reputation for the central bank are high, monitoring effort by the banker is important in improving returns, and when the cost of liquidating projects is moderate. A very severe moral hazard problem could make dollarization undesirable, however. The results obtained are applied to assess the desirability of dollarization in a range of countries and the potential role of the IMF as International LOLR.

Keywords: banking crisis; IMF; lender of last resort; liquidity; moral hazard (search for similar items in EconPapers)
JEL-codes: E58 F30 G28 (search for similar items in EconPapers)
Date: 2001-07
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Related works:
Working Paper: Dollarization, Bailouts, and the Stability of the Banking System (2002)
Journal Article: Dollarization, bailouts, and the stability of the banking system (2001)
Journal Article: Dollarization, Bailouts, And The Stability Of The Banking System (2002)
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