Government support of banks and market discipline: International evidence

Abstract

This study analyzes the effect of government support on market discipline in an international sample of banks rated by Moody's or Fitch. We also evaluate how a financial crisis and size shape the effect of government support on market discipline. We control for unobservable, country, and time‐specific effects with a panel dataset of banks from 77 countries. Through this comprehensive dataset, we find that government support significantly reduces the market discipline of banks, and this effect is most reflected by an expected increase in charter value. However, market discipline is more pronounced after the 2008 financial crisis and for smaller than bigger banks. These results have important implications for banking regulation and supervision, particularly during a crisis period.

An AI approach for managing financial systemic risk via bank bailouts by taxpayers

“…13,17,18). There is also a vast literature on governmental interventions in financial institutions, which spans across many different directions, such as post-bailout bank performances 19 , the bailout effects on the underwriting business 20 , on market discipline 21 and on sovereign risk 22 , as well as the interplay amongst bailouts, banks' risk profile and national regulation [23][24][25][26] . Our work though is related to a branch of the financial systemic risk literature that analyses interventions to limit the effects of financial crises.…”

“…We firstly recall a standard relationship between optimal value functions and action value functions in MDPs. Observe that the two terms on the right-hand side in the definition (21) of the optimal action value function Q * (s t , a t ) are first the immediate expected reward at time t due to taking action a t and second the optimal expected discounted cumulative reward from time t + 1 onwards. We can therefore rewrite Q * (s t ,a t ) from (21) in terms of the transition probabilities (recall (17)) and the future optimal value functions V * ðs 0 t + 1 Þ defined in (19), in the form…”