Forbearance and Prompt Corrective Action

This article investigates whether a bank regulator should terminate problem banks promptly or exercise forbearance. We construct a dynamic model economy in which entrepreneurs pledge collateral, borrow from banks, and invest in long-term projects. We assume that collateral value has aggregate risk o...

Full description

Saved in:
Bibliographic Details
Published in:Journal of money, credit and banking credit and banking, 2007-08, Vol.39 (5), p.1107-1129
Main Authors: KOCHERLAKOTA, NARAYANA R., SHIM, ILHYOCK
Format: Article
Language:English
Subjects:
Bank loans
Bank regulation
Banking crises
Banking law
Banking regulation
Banking system
Banks (Finance)
Collateral
D81
Deposit insurance
Economic models
Economic regulation
Entrepreneurs
Financial economics
Forbearance
G21
G28
Government regulation
Insurance regulation
Law enforcement
Laws, regulations and rules
Lenders
limited enforcement
optimal social contract
Regulation of financial institutions
Regulatory policy
risky collateral
Social aspects
Studies
Taxpaying
We they distinction
Citations: Items that this one cites
Items that cite this one
Online Access:Get full text
Tags: Add Tag
No Tags, Be the first to tag this record!
Description
Summary:This article investigates whether a bank regulator should terminate problem banks promptly or exercise forbearance. We construct a dynamic model economy in which entrepreneurs pledge collateral, borrow from banks, and invest in long-term projects. We assume that collateral value has aggregate risk over time, that in any period entrepreneurs can abscond with the projects but lose the collateral, and that depositors can withdraw deposits. We show that optimal regulation exhibits forbearance if the ex-ante probability of collapse in collateral value is sufficiently low, but exhibits prompt termination of problem banks if this probability is sufficiently high.
ISSN:0022-2879
1538-4616
DOI:10.1111/j.1538-4616.2007.00059.x