Central bank screening, moral hazard, and the lender of last resort policy

Mei Li, Frank Milne and Junfeng Qiu ()
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Junfeng Qiu: Central University of Finance and Economics

Journal of Banking Regulation, 2022, vol. 23, issue 3, No 2, 244-264

Abstract: Abstract This paper constructs a theoretical model to examine the LOLR policy when a central bank can imperfectly screen insolvent from solvent banks. We find that: (1) Central bank screening produces a “positive” stigma associated with central bank borrowing by punishing insolvent banks. (2) With central bank screening, the LOLR policy in fact reduces moral hazard rather than inducing it. (3) If the central bank can better identify solvent and insolvent banks when they apply for central bank loans, it will improve social welfare first by forcing the insolvent banks to efficiently liquidate their assets and second by deterring banks from choosing the risky assets to start with.

Keywords: Central bank screening; Moral hazard; Lender of last resort; E58; G28 (search for similar items in EconPapers)
Date: 2022
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Related works:
Working Paper: Central Bank Screening, Moral Hazard, and the Lender of Last Resort Policy (2015)
Working Paper: Central Bank Screening, Moral Hazard, And The Lender Of Last Resort Policy (2013)
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DOI: 10.1057/s41261-021-00159-z

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