Lecture 2

Question 1

When do bank rund occur?

Answer 1

When π is stochastic
Expected Deterioration assets quality
Self fulfilling prophecy

Question 2

What are the solutions for bank runs?

Answer 2

-Narrow banking (solves it but neutralizes the reason to have banks)
-Suspension of convertibility (Doesn’t work when π is stochastic, if π>γ then rationing impatient agents, if π<γ rationing patient agents)
-Deposit insurance (moral hazard, banks finance riskier projects, banks use more leverage)
-Lender of Last Resort (interest rate too high-> moral hazard, interest rate too low-> CB loans cheaper->arbitrage to CB)
-Interbank Market

Question 3

What are the pros for seperating commercial and investment banks?

Answer 3

Own capital used for proprietary trading
Volatile securities on banks balance sheets
Banks selling own securities to own costumers
TBTF & Deposit Insurance moral hazard
Excessive control of credit market

Question 4

What are the cons for seperating commercial and investment banks?

Answer 4

More asset classes → More diversification
Banks should provide full range of financial services
Banks as shareholders-creditors → Less conflicts of
interest
Economies of scope → cheaper banking