Bailouts, franchise value and moral hazard in banking

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Title: Bailouts, franchise value and moral hazard in banking
Author: Kauko, Karlo
Series: Singapore Economic Review
Series volume: 63
Series number: 3
Year of publication: 2018
Publication date: 15.6.2018
Page range: 691-699
Publisher: World Scientific
Subject (yso): pankit; riskit
Keywords: pankkitoiminta
JEL: G01; G21; G28; H81
Other keywords: moral hazard; franchise value; bailouts; banking
Abstract: Policy discussions are dominated by the view that governmental safety nets offered to banks cause moral hazard and encourage risk-taking. However, [Cordella, T and E Levy Yeyati (2003). Bank bailouts: moral hazard vs. value effect. Journal of Financial Intermediation, 12, 300–330.] proposed that government support offered during crises may increase bank franchise value, resulting in less risk-taking. This paper presents additional theoretical results on the franchise value effect. The franchise value effect can dominate over the moral hazard effect even when there are no specific crisis periods. The franchise value effect dominates if bank shareholders have a weak time preference and if the decision on the intensity of risk monitoring is a long-term choice.

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