Get access
Advertisement

An Incentive Approach to Banking Regulation

Authors

  • RONALD M. GIAMMARINO,

    Search for more papers by this author
    • University of British Columbia, The University of Florida, and the University of Florida, respectively. We thank the participants at the Canadian Economic Theory Meetings, the Northern Finance Associating meetings, the Reform of Financial Institutions Symposium at Northwestern University, and the Western Finance Association meetings as well as David Bizer, Mark Flannery, S. Nagarajan, Jacek Prokop, Jeremy Rudin, Joe Williams, and an anonymous referee for their helpful comments. We are grateful for the financial support of the Garn Institute of Finance, the Institute of International Relations at UBC, the National Science Foundation, The Public Utilities Research Center at the University of Florida, the Social Sciences and Humanities Research Council of Canada, The University of California Energy Research Group, and the Vancouver Stock Exchange.

  • TRACY R. LEWIS,

    Search for more papers by this author
    • University of British Columbia, The University of Florida, and the University of Florida, respectively. We thank the participants at the Canadian Economic Theory Meetings, the Northern Finance Associating meetings, the Reform of Financial Institutions Symposium at Northwestern University, and the Western Finance Association meetings as well as David Bizer, Mark Flannery, S. Nagarajan, Jacek Prokop, Jeremy Rudin, Joe Williams, and an anonymous referee for their helpful comments. We are grateful for the financial support of the Garn Institute of Finance, the Institute of International Relations at UBC, the National Science Foundation, The Public Utilities Research Center at the University of Florida, the Social Sciences and Humanities Research Council of Canada, The University of California Energy Research Group, and the Vancouver Stock Exchange.

  • DAVID E. M. SAPPINGTON

    Search for more papers by this author
    • University of British Columbia, The University of Florida, and the University of Florida, respectively. We thank the participants at the Canadian Economic Theory Meetings, the Northern Finance Associating meetings, the Reform of Financial Institutions Symposium at Northwestern University, and the Western Finance Association meetings as well as David Bizer, Mark Flannery, S. Nagarajan, Jacek Prokop, Jeremy Rudin, Joe Williams, and an anonymous referee for their helpful comments. We are grateful for the financial support of the Garn Institute of Finance, the Institute of International Relations at UBC, the National Science Foundation, The Public Utilities Research Center at the University of Florida, the Social Sciences and Humanities Research Council of Canada, The University of California Energy Research Group, and the Vancouver Stock Exchange.


ABSTRACT

We examine the optimal design of a risk-adjusted deposit insurance scheme when the regulator has less information than the bank about the inherent risk of the bank's assets (adverse selection), and when the regulator is unable to monitor the extent to which bank resources are being directed away from normal operations toward activities that lower asset quality (moral hazard). Under a socially optimal insurance scheme: (1) asset quality is below the first-best level, (2) higher-quality banks have larger asset bases and face lower capital adequacy requirements than lower-quality banks, and (3) the probability of failure is equated across banks.

Get access to the full text of this article

Ancillary