Deposits and Bank Capital Structure
Franklin Allen and
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Franklin Allen: University of PA
Elena Carletti: European University Institute and IGIER, Bocconi University
Working Papers from University of Pennsylvania, Wharton School, Weiss Center
In a model with bankruptcy costs and segmented deposit and equity markets, we endogenize the choice of bank and firm capital structure and the cost of equity and deposit finance. Despite risk neutrality, equity capital is more costly than deposits. When banks directly finance risky investments, they hold positive capital and diversify. When they make risky loans to firms, banks trade off the high cost of equity with the diversification benefits from a lower bankruptcy probability. When bankruptcy costs are high, banks use no capital and only lend to one sector. When these are low, banks hold capital and diversify.
JEL-codes: G21 G32 G33 (search for similar items in EconPapers)
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