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  3. American Economic Review
  4. May 2016
  5. Bank Leverage and Social Welfare

Bank Leverage and Social Welfare

  • Lawrence Christiano
  • Daisuke Ikeda
American Economic Review
vol. 106, no. 5, May 2016
(pp. 560-64)
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Abstract

We describe a general equilibrium model in which an agency problem arises because bankers must exert an unobserved and costly effort to perform their task. Suppose aggregate banker net worth is too low to insulate creditors from bad outcomes on their balance sheet. Then, banks borrow too much in equilibrium because there is a pecuniary externality associated with bank borrowing. Social welfare is increased by imposing a binding leverage restriction on banks. We formalize this argument and provide a numerical example.

Citation

Christiano, Lawrence, and Daisuke Ikeda. 2016. "Bank Leverage and Social Welfare." American Economic Review, 106 (5): 560-64. DOI: 10.1257/aer.p20161090

Additional Materials

JEL Classification

  • G21 Banks; Depository Institutions; Micro Finance Institutions; Mortgages
  • G28 Financial Institutions and Services: Government Policy and Regulation
  • G32 Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill
  • G38 Corporate Finance and Governance: Government Policy and Regulation