Protecting Savings: Do We Need a Supervision Authority?
30 Pages Posted: 9 Nov 2008 Last revised: 8 Mar 2010
Date Written: November 6, 2008
Abstract
We apply a three-tier hierarchical model of regulation, developed along the lines of Laffont and Tirole's (1993), to an adverse selection problem in the corporate bond market. The bank brings the bonds to the market and informs the potential buyers about the bonds' risk; a unique benevolent public authority aims at maximising savers' welfare. The main goal is to investigate whether this unique authority is able to fully inform the market on firms' true credit worthiness when banks, in order to recover doubtful credits, favour the placement of bonds issued by levered firms by concealing their true risk. We establish the necessary condition that allows the optimal sanctions to produce the first best equilibrium.
Keywords: Corporate bond, Incentives, Collusion, Regulation
JEL Classification: D82, G28
Suggested Citation: Suggested Citation
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