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Government guarantees and financial stability

Elena Carletti (), Agnese Leonello, Franklin Allen and Itay Goldstein

No 2032, Working Paper Series from European Central Bank

Abstract: Banks are intrinsically fragile because of their role as liquidity providers. This results in underprovision of liquidity. We analyze the effect of government guarantees on the interconnection between banks' liquidity creation and likelihood of runs in a model of global games, where banks' and depositors' behavior are endogenous and affected by the amount and form of guarantee. The main insight of our analysis is that guarantees are welfare improving because they induce banks to improve liquidity provision although in a way that sometimes increases the likelihood of runs or creates distortions in banks' behavior. JEL Classification: G21, G28

Keywords: bank moral hazard; fundamental runs; government guarantees; panic runs (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-ban and nep-cba
Date: 2017-02
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Related works:
Journal Article: Government guarantees and financial stability (2018) Downloads
Working Paper: Government Guarantees and Financial Stability (2015) Downloads
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Persistent link: https://EconPapers.repec.org/RePEc:ecb:ecbwps:20172032

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