Transparency in the Financial System: Rollover Risk and Crises

Abstract

We present a theory of optimal transparency when banks are exposed to rollover risk. Disclosing bank-specific information enhances the stability of the financial system during crises, but has a destabilizing effect in normal economic times. Thus, the regulator optimally increases transparency during crises. Under this policy, however, information disclosure signals a deterioration of economic fundamentals, which gives the regulator ex post incentives to withhold information. This commitment problem precludes a disclosure policy that provides ex ante optimal insurance against aggregate shocks, and can result in excess opacity that increases the likelihood of a systemic crisis.

Stress Tests and Information Disclosure

“…Selling the asset at a price of at least 1 guarantees that the bank's cash holdings will not fall below the threshold and, hence, can be thought of as a simple form of insurance or risk sharing, in which the bank replaces a stochastic cash ‡ow with a deterministic cash ‡ow. 10 The nature of our model continues to hold for other forms of risk sharing, such as the case in which banks enter into more complicated derivative contracts, or the case in which banks share risk among themselves (see Section 7). 9 A similar discontinuity in payo¤s appears in Leitner (2005) and in Elliott, Golub, and Jackson (2014).…”

“…Any other z H will reduce the value of the objective function because fewer types will sell their assets. (Note that given (10), the objective function is just a function of selling probabilities, not prices. )…”

Three essays in banking and finance: the effects of the post- global financial crisis prudential regulation on lending, corporate governance practices and shareholder value – evidence from U.S.

“…Implementation of disclosure policies stems from the regulator's superior knowledge about both the aggregate shocks and the state of banking (Bouvard et al (2015)). Because the aim of the regulator is to smooth cyclicality in aggregate credit provision (Schwert (2018)), the policy would depend on two componentsmacroeconomic and bank-specific states (Bouvard et al (2015)). Binding changes in disclosure policy at the bank-level are likely to occur during adverse economic conditions (Bouvard et al (2015)), such as during or post financial crises.…”

“…Because the aim of the regulator is to smooth cyclicality in aggregate credit provision (Schwert (2018)), the policy would depend on two componentsmacroeconomic and bank-specific states (Bouvard et al (2015)). Binding changes in disclosure policy at the bank-level are likely to occur during adverse economic conditions (Bouvard et al (2015)), such as during or post financial crises. The resulting outcome is a-priori ambiguoustransparency can either improve overall trust in the banking system (Tarullo (2010)), or it can "backfire" (Bernanke (2010a)).…”

“…The key change for regulators to take a "macro-prudential approach" came to the fore post the financial crisis (Yellen (2013)). To lighten the damaging real effects of crises, which are often realised in credit crunches (Brunnermeier (2009)) and bank runs (Bouvard, Chaigneau and Motta (2015)), academics and policymakers have argued for a strengthening of macro-prudential policies with the disclosure of capital adequacy, which is aimed at averting too much risk-taking by banks (Harris and Raviv (2014), Tarullo (2010)). With the increased disclosure "market participants could make their own forward-looking assessment of bank conditions" (Tarullo (2010)).…”