Imperial College Business School Tanaka Building
South Kensington Campus
London SW7 2AZ, UK
Institutional Affiliation: Imperial College London
NBER Working Papers and Publications
|December 2017||Does Size Matter? Bailouts with Large and Small Banks|
with Eduardo Dávila: w24132
We explore how large and small banks make funding decisions when the government provides system-wide bailouts to the financial sector. We show that bank size, purely on strategic grounds, is a key determinant of banks' leverage choices, even when bailout policies treat large and small banks symmetrically. Large banks always take on more leverage than small banks because they internalize that their decisions directly affect the government's optimal bailout policy. In equilibrium, small banks also choose strictly higher borrowing when large banks are present, since banks' leverage choices are strategic complements. Overall, the presence of large banks increases aggregate leverage and the magnitude of bailouts. The optimal ex-ante regulation features size-dependent policies that disproportion...