Reputational contagion and optimal regulatory forbearance

Alan D. Morrison and Lucy White

Journal of Financial Economics, 2013, vol. 110, issue 3, 642-658

Abstract: Existing studies suggest that systemic crises may arise because banks either hold correlated assets, or are connected by interbank lending. This paper shows that common regulation is also a conduit for interbank contagion. One bank's failure may undermine confidence in the banking regulator's competence, and, hence, in other banks chartered by the same regulator. As a result, depositors withdraw funds from otherwise unconnected banks. The optimal regulatory response to this behavior can be privately to exhibit forbearance to a failing bank. We show that regulatory transparency improves confidence ex ante but impedes regulators' ability to stem panics ex post.

Keywords: Contagion; Reputation; Bank regulation (search for similar items in EconPapers)
JEL-codes: G21 G28 (search for similar items in EconPapers)
Date: 2013
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Citations: View citations in EconPapers (44)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:jfinec:v:110:y:2013:i:3:p:642-658

DOI: 10.1016/j.jfineco.2013.08.011

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