If Fail, Fail Less: Banks’ Decision on Systematic Vs Idiosyncratic Risk

Una Savic

Discussion by

Laurent Weill

University of Strasbourg & Bank of Finland

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The paper in one slide

Excellent theoretical model on bank failures.

Idea: Banks have the choice between systematic and idiosyncratic

risk. They prefer systematic risk so that there is the “too many to

fail” situation where regulators must bail out banks to avoid major crisis.

But if the regulator bails out more banks that fail less, banks have incentives to prefer idiosyncratic risk and to choose more efficient projects.

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Comment 1: update the story

The writing is a little bit obsolete.

Most papers cited in the introduction were published before 2000.

No mention of key words: “macroprudential supervision”, “financial stability”.

No reference to the financial crisis.

No use at all of recent facts to motivate the paper.

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Comment 2: questionable hypotheses

Empirical evidence and facts would be needed to motivate the relevance of the hypotheses.

Hypothesis 1: “Too many to fail”. We like the idea but good to cite empirical evidence to

support it. Among others: Claeys and Schoors (JCE, 2007) for Russia,

Brown and Dinc (RFS, 2015)…

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Comment 2: questionable hypotheses

Hypothesis 2 (key hypothesis): the regulators care about the value of the bank when deciding to save it.

Theoretically possible and intuitively normal… but empirically questionable: isn’t it a dream?

Two papers to motivate it: Kasa and Spiegel (1999), Santomero and Hoffmann (1998).

But they are rather old and are working papers.

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Comment 2: questionable hypotheses

Not conclusive given the role of too interconnected to fail and especially too big to fail. Many examples in the recent financial crisis in Europe.

Not conclusive given the role of political connections Dam and Koetter (RFS, 2012): regional political factors. Liu and Ngo (JFE, 2014): influence of political factors.

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Comment 3: useful policy implications?

The implications of the paper are that: (1) regulators should care more about better banks when

bailing out. (2) if a bank does not want to vanish, it must invest in good

projects.

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Comment 3: useful policy implications?

The implications of the paper are that: (1) regulators should care more about better banks when

bailing out. (2) if a bank does not want to vanish, it must invest in good

projects. But: (1) should already exist and given what I said it is not sure it

does. (2) should already exist.

Useful for regulators?