Risk taking by banks and captial accumulation: A portfolio approach

This paper shows the risk taking role of banks within a continuous-time portfolio model. Banks are considered as risk-averse utility maximizers which differ from private investors and firms only by their degree of risk aversion. Since bankruptcy risk, described by a Poisson jump-process, restrains the capability of firms to mobilize funds from private investors, banks foster capital accumulation by investing in risk-bearing credits financed by risk-free deposits. The provision of collateral by the borrowing firms is found to be necessary for the viability of financial intermediation. This result adds to the explanation of collateral given by the theory of asymmetric information.I would like to thank Manfred Neumann, Thusnelda Tivig, two anonymous referees, and my husband for helpful comments. Financial support by the Deutsche Forschungsgemeinschaft is gratefully acknowledged.