Bank resolution and shadow pricing of rural banks equity

Citra Amanda (), Dimitris Margaritis and Dulani Jayasuriya
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Citra Amanda: The University of Auckland Business School
Dimitris Margaritis: The University of Auckland Business School
Dulani Jayasuriya: The University of Auckland Business School

SN Business & Economics, 2025, vol. 5, issue 11, 1-20

Abstract: Abstract This study investigates the economic implications of bank resolution mechanisms on the cost of equity capital. By introducing the concept of a shadow price of equity as a forward-looking measure of recovery prospects, we provide a novel lens through which to evaluate the financial resilience of banks. Utilizing a unique dataset of rural banks, we show that deterioration in asset quality leads to a meaningful increase in the cost of capital, reflecting heightened investor risk perception and reduced confidence in the bank’s solvency. We find that banks experiencing higher shadow equity prices, suggestive of elevated capital costs, have systematically lower recovery rates in resolution scenarios. These findings highlight the economic value of operational efficiency and prudent risk management in enhancing resolution outcomes. Additionally, our results highlight the presence of a material implicit deposit insurance subsidy, which distorts market discipline and affects capital allocation in the banking sector.

Keywords: Shadow prices; Bank equity capital; Recovery rate; Resolution; Bank efficiency; Deposit insurance (search for similar items in EconPapers)
JEL-codes: D61 G18 G21 G28 G33 (search for similar items in EconPapers)
Date: 2025
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DOI: 10.1007/s43546-025-00947-z

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