Working Paper: CEPR ID: DP9479
Authors: Viral V. Acharya; Hanh Le; Hyun Song Shin
Abstract: While losses were accumulating during the 2007-09 financial crisis, many banks continued to maintain a relatively smooth dividend policy. We present a model that explains this behavior in a setting where there are financial externalities across banks. In particular, by paying out dividends, a bank transfers value to its shareholders away from its creditors, who in turn are other banks. This way, one bank's dividend payout policy a ects the equity value and risk of default of otther banks. When such negative externalities are strong and bank franchise values are not too low, the private equilibrium can feature excess dividends relative to a coordinated policy that maximizes the combined equity value of banks.
Keywords: externalities; financial crises; franchise value; risk-shifting
JEL Codes: G01; G21; G24; G28; G32; G35; G38
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| lower franchise values (G32) | higher dividend payouts (G35) |
| higher dividend payouts (G35) | increased likelihood of default (G33) |
| increased likelihood of default (G33) | decreased equity value (G32) |
| bank B's dividend payments (G35) | increased likelihood of default on obligations to bank A (G21) |
| increased likelihood of default on obligations to bank A (G21) | decreased equity value of bank A (G21) |
| individual bank decisions on dividends (G35) | systemic risks in the banking sector (F65) |