Reputational contagion and optimal regulatory forbearance |
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Authors: | Alan D Morrison Lucy White |
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Institution: | 1. Said Business School, University of Oxford, United Kingdom;2. CEPR, United States;3. Harvard Business School, United States |
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Abstract: | Existing studies suggest that systemic crises may arise because banks either hold correlated assets, or are connected by interbank lending. This paper shows that common regulation is also a conduit for interbank contagion. One bank's failure may undermine confidence in the banking regulator's competence, and, hence, in other banks chartered by the same regulator. As a result, depositors withdraw funds from otherwise unconnected banks. The optimal regulatory response to this behavior can be privately to exhibit forbearance to a failing bank. We show that regulatory transparency improves confidence ex ante but impedes regulators' ability to stem panics ex post. |
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Keywords: | G21 G28 |
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