True Taxpayer Burden of Bank Restructuring

Augustin Landier and Kenichi Ueda

No 662, IDEI Working Papers from Institut d'Économie Industrielle (IDEI), Toulouse

Abstract: We formalize the taxpayer burden implied by various bank restructuring plans. Even assuming minimal frictions, in spirit of Modigliani and Miller (1958), when debt contracts cannot be changed, transfers from the taxpayer (in a Net Present Value sense) are necessary. Debt holders benefit from a lower default probability and a higher recovery given default. Absent government transfers, their gains imply a decrease in equity value. Shareholders will therefore oppose the restructuring unless they receive transfers from taxpayers. The taxpayer burden consists of the NPV of inflows and outflows of cash needed to persuade shareholders (or bank managers) to accept a change in capital structure. The government’s intervention aims at preventing systemic effects from a default of an important bank, and thus targets a default rate. Due to different implied recovery rates given default, the required transfer amounts vary across restructuring plans that achieve the same target default rate. In this regard, asset sales require more transfers than recapitalization or asset guarantees, because asset sales support a higher recovery rate.

Keywords: Bank restructuring; Too big to fail; Bank subsidy; Crisis management (search for similar items in EconPapers)
JEL-codes: G21 G28 H12 (search for similar items in EconPapers)
Date: 2009-06, Revised 2010-12-16
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Persistent link: https://EconPapers.repec.org/RePEc:ide:wpaper:24169

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