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Cutting Losses or Holding Tight?
Firm’s Investment Decision and Bank's Withdrawal Policy
Regulation,Lending Crunch,Investment Decision,Pareto Optimality,Game Theory,
|Publication Year :||2010|
The topics of financial crisis spreading caused by bank runs have been widely discussed in the finance literature. However, how should the government regulate banks’ tightening policies on firms’ investment funds when the financial turmoil occurs? This problem is less referred to so far. We attempt to build a game theoretic model of a loan market between three players: the government, the bank and the firm, in order to discuss the following issue. When recession occurs or the economic environment suddenly turns bad, whether the government regulation in the loan market increases the social welfare. We assume an exogenous variable, discount ratio, which means the ratio the bank would lose when it withdraws funds from the firm, and this ratio is set by government. Our results show that in the case of normal or better economic environments, the level of the discount ratio has no effect on social welfare. When the economy deteriorates, without the government regulation, the bank tends to withdraw their funds to protect themselves. If the return rate of the firm’s investment is good enough, then a sufficiently high level of the discount ratio set by the government will improve social welfare. On the other hand, if the return rate of the firm’s investment is poor, although a high level of the discount ratio could protect the firm from the bank’s withdrawal, the social welfare would decline as government’s regulation mistakenly save a poor investment project that should otherwise be aborted.
|Appears in Collections:||經濟學系|
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