Bank Licensing and Corporate Governance
As we saw in the earlier chapters, in the absence of regulation, information asymmetries and negative externalities would lead to possible bank runs, contagion effects, and domino-like banking collapses. For this reason, a financial safety net is necessary to preserve the stability of modern financial systems. However, once a financial safety net is in place, it can produce perverse incentives for bank owners and managers. A high-wire circus performer takes greater risks with the knowledge that a safety net will break a fall. The same is true of bank managers and safety nets of the financial variety. Owners and managers of banks stand to make substantial gains if their risk taking pays off. The ...
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