Staff Working Paper No. 732
By Daisuke Ikeda
I develop a general equilibrium model that features endogenous bank runs in a global game framework. A bank run probability - systemic risk - is increasing in bank leverage and decreasing in bank liquid asset holdings. Bank risk shifting and pecuniary externalities induce excessive leverage and insufficient liquidity, resulting in elevated systemic risk from a social welfare viewpoint. Addressing the inefficiencies requires prudential tools on both leverage and liquidity. Imposing one tool only causes risk migration: banks respond by taking more risk in another area. I extend the model and study risk migration in other fields including sectoral lending, concentration risk and shadow banking.
Bank runs, prudential tools and social welfare in a global game general equilibrium model