Document Type

Article

Publication Date

11-27-2024

Abstract

Historically, shocks originating in the financial sector often spilled over into the real sector with dramatic consequences. We study in the lab how interventions targeting disclosure and capital requirements of financial intermediaries can reduce insolvencies or prevent their negative effects from propagating to the broader economy. In our two-sector economy, consumers and producers can fund financial intermediaries, who, in turn, provide them with liquidity to settle trades. However, intermediaries may undertake risky investments and become insolvent, which depresses real economic activity. In the experiment, insolvencies were frequent. As a consequence, consumers and producers often refused to fund intermediaries, which lowered the trade volume. Imposing the disclosure of risky investments did not reduce risk-taking and insolvencies. Instead, imposing capital requirements prevented insolvencies from disrupting real economic activity, thus boosting financial intermediation and trade.

Comments

ESI Working Paper 24-18

This paper later underwent peer review and was published by Oxford University Press as:

Maria Bigoni, Gabriele Camera, Marco Casari, How To Discipline Financial Markets: Reputation Is Not Enough, Journal of the European Economic Association, 2024;, jvae055, https://doi.org/10.1093/jeea/jvae055

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