Bankruptcy Priority for Bank Deposits: A Contract Theoretic Explanation

Abstract

Tirole for helpful comments. I also thank seminar participants at Swiss National Bank and at the 1998 meeting of the European Economic Association in Berlin. I am particularly indebted to a referee for suggestions that have improved the article considerably. Of course, the usual disclaimer applies. Research for this article was initiated while I was visiting the Federal Reserve Bank of Richmond. The opinions expressed herein are my

Systemic risk and the optimal seniority structure of banking liabilities

“…Kaufman () has challenged this claim by arguing that how effective the banks are as monitors depends on their beliefs about the likelihood that the government would intervene in times of crises, in which case, banks would consider transactions in the interbank market as bearing low risk. Birchler () also supports depositor preference on the grounds that banks have an informational advantage relative to a large number of small depositors. Moreover, he argues that raising funds by offering to depositors a standardized product with priority rights is a more efficient than having each depositor sign a bilateral contract with a bank.…”

Bank Insolvencies, Priority Claims and Systemic Risk

“…Along similar lines, Birchler (2000) has argued in favor of depositor preference on the grounds that other creditors, like banks, have an informational advantage relative to a large number of small depositors. 9 Moreover, he argues that o¤ering a standardized product to depositors with priority rights is 7 Beyong their e¤ects on the incentives to monitor, changes in priority rules can have other consequences.…”

“…9 Moreover, he argues that o¤ering a standardized product to depositors with priority rights is 7 Beyong their e¤ects on the incentives to monitor, changes in priority rules can have other consequences. Such changes would a¤ect the prices of those claims whose priority has been a¤ected, potentially changing their ownership and thus the entities a¤ected in the case of bankruptcy (see Danisewicz et al, 2015).…”

“…8 Their argument bears some similarity to the one used for supporting the seniority of bank claims on the balance sheets of other …rms (see Longofer and Santos, 2000). 9 His work is an application to banking of earlier theoretical work on the role of seniority on corporate balance sheets (see, for example, Diamond, 1993; Hart and Moore, 1995). a more e¢cient way of raising funds than having each depositor sign a bilateral contract with a bank.…”

Allocating bank regulatory powers: Lender of last resort, deposit insurance and supervision

“…For example, in the case of the lending of last resort, the focus has been on the issue of whether the CB should precommit to a policy (Goodfriend and Lacker (1999) and Freixas (1999)). In the case of deposit insurance, the focus has been on the moral hazard it causes (Kareken and Wallace (1978) and Merton (1977)), the feasibility of fair premia (Chan, Greenbaum and Thakor (1992) and Freixas and Rochet (1997)) and the cost e®ects of depositor-preference laws (Osterberg and Thomson (1999) and Birchler (2000)). Finally, in the case of supervision, the focus has been on the moral hazard resulting from di®erent closure rules (Davis and McManus (1991)).…”