Central Bank Capital and Shareholder Relationship

Matteo Bonetti, Dirk Broeders, Damiaan Chen and Daniel Dimitrov

Working Papers from DNB

Abstract: In pursuing its mandate, a central bank assumes financial risks through its mon- etary policy operations. Central bank capital is a critical tool in mitigating these risks. We investigate the concept of central bank capital as a mechanism for risk- sharing with its shareholder. Adopting an option pricing framework, we explore the setting where the central bank commits to distributing dividends when its cap- ital is robust, while the shareholder may be called upon to recapitalize the bank during adverse economic conditions, with negative capital. Our analysis dissects the trade-offs inherent in these options, seeking a mutually beneficial agreement that disincentivizes deviation for either party. This equilibrium is essential for safe- guarding the independence and credibility of the central bank in executing monetary policy effectively.

Keywords: Capital; Central Bank; Contingent Claim Analysis, Risk Management; Shareholder; Stackelberg Games (search for similar items in EconPapers)
JEL-codes: E58 G13 G32 (search for similar items in EconPapers)
Date: 2024-04
New Economics Papers: this item is included in nep-ban, nep-cba and nep-mon
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Persistent link: https://EconPapers.repec.org/RePEc:dnb:dnbwpp:809

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