Walking wounded or living dead? Making banks foreclose bad loans

Max Bruche and Gerard Llobet

LSE Research Online Documents on Economics from London School of Economics and Political Science, LSE Library

Abstract: Because of limited liability, insolvent banks have an incentive to roll over bad loans, in order to hide losses and gamble for resurrection, even though this is socially inefficient. We suggest a scheme that regulators could use to solve this problem. The scheme would induce banks to reveal their bad loans, which can then be foreclosed. Bank participation in the scheme would be voluntary. Even though banks have private information on the quantity of bad loans on their balance sheet, the scheme avoids creating windfall gains for bank equity holders. In addition, some losses can be imposed on debt holders.

Keywords: bank bail-outs; forbearance lending; recapitalizations; asset buybacks; mechanism design (search for similar items in EconPapers)
JEL-codes: D86 G21 G28 (search for similar items in EconPapers)
Pages: 50 pages
Date: 2011-03-01
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Downloads: (external link)
http://eprints.lse.ac.uk/119073/ Open access version. (application/pdf)

Related works:
Working Paper: Walking Wounded or Living Dead? Making Banks Foreclose Bad Loans (2011)
Working Paper: Walking Wounded or Living Dead? Making Banks Foreclose Bad Loans (2010)
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Persistent link: https://EconPapers.repec.org/RePEc:ehl:lserod:119073

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