A theory of bank regulation and management compensation |
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Authors: | John, K Saunders, A Senbet, LW |
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Affiliation: | 1 Stern School of Business, New York University, Finance Department, 44 West 4th St. Suite 9-190, New York, NY 10012, USA 2 University of Maryland, USA z Corresponding author E-mail: kjohn@stern.nyu.edu |
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Abstract: | We show that concentrating bank regulation on bank capital ratiosmay be ineffective in controlling risk taking. We propose, instead,a more direct mechanism of influencing bank risk-taking incentives,in which the FDIC insurance premium scheme incorporates incentivefeatures of top-management compensation. With this scheme, weshow that bank owners choose an optimal management compensationstructure that induces first-best value-maximizing investmentchoices by a bank's management. We explicitly characterize theparameters of the optimal management compensation structureand the fairly priced FDIC insurance premium in the presenceof a single or multiple sources of agency problems. |
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