Discussion paper

DP16893 Voluntary Support and Ring-Fencing in Cross-border Banks

We study supervisory interventions in cross-border banks under different institutional architectures in a model in which a bank may provide voluntary support to an impaired subsidiary using resources in a healthy subsidiary. While a supranational architecture permits voluntary support, a national architecture gives rise to inefficient ring-fencing of a healthy subsidiary when there is high correlation between the subsidiaries’ assets. The enhanced cross-subsidiary support allowed by a supranational architecture affects banks’ risk-taking, leading to a convergence of the subsidiary risk of banks with heterogeneous fundamentals. Finally, the objective to minimize national expected deposit insurance costs is achieved through a supranational architecture for riskier banks, but not so for safer banks even in situations in which it would be aggregate welfare improving.

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Citation

Lóránth, G, J Zeng and a segura (eds) (2022), “DP16893 Voluntary Support and Ring-Fencing in Cross-border Banks”, CEPR Press Discussion Paper No. 16893. https://cepr.org/publications/dp16893