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Title: Rules versus Discretion in Bank Resolution

Author(s): Ansgar Walther and Lucy White

Publication Date: October 2019

Keyword(s): bail-in, bail-out, bank resolution, bank runs and financial crises

Programme Area(s): Financial Economics

Abstract: Recent reforms give regulators broad powers to "bail-in" bank creditors during financial crises. We analyze efficient bail-ins and their implementation. To preserve liquidity, regulators must avoid signalling negative private information to creditors. Therefore, optimal bail-ins in bad times depend only on public information. As a result, the optimal policy cannot be implemented if regulators have wide discretion, due to an informational time-inconsistency problem. Rules mandating tough bail-ins after bad public signals, or contingent convertible (co-co) bonds, improve welfare. We further show that bail-in and bailout policies are complementary: if bailouts are possible, then discretionary bail-ins are more effective.

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Bibliographic Reference

Walther, A and White, L. 2019. 'Rules versus Discretion in Bank Resolution'. London, Centre for Economic Policy Research. https://cepr.org/active/publications/discussion_papers/dp.php?dpno=14048