The Study On The Lender Of Last Resort And Its' Moral Hazard Mitigation

Lender of Last Resort (LOLR), the chief means by which governments have chosen to keep financial security, like other security means, leads to a moral hazard problem which distort the acts of economic agency and economic society efficiency lose. LOLR faces a dilemma, one side, commit to bail out insolvent institutions will create incentives for banks to take on excessive risk and leads depositors have less incentive to supervise banks, on the other side, not to bailing out problem banks will increase the likelihood that the failure of a single bank hampers the confidence in the whole banking system, sometimes even leads to financial crises, particularly when suffers adverse shocks. LOLR needs to trade-off between keeping financial security and mitigating moral hazard. This article use theory analysis, symbolic analysis and case analysis to analysis this problem. We show that: (1) In the non-commitment case, based on the comparison of the cast of liquidation and continuation, the too big to fail property holds for the LOLR policy and it will leads to serious moral hazard problem. (2)In the commitment case, take the mix strategy, constructive ambiguity will be the LOLR's best policy choice. (3)Considering adverse shock will induce financial panic, we show that by announcing and committing ex-ante to bail out insolvent institutions in times of adverse macroeconomic conditions, can create a risk-reducing 'value effect' and thus lowers bank risk. (4)Our country's recessive LOLR has induced serious moral hazard problem and we should perfect it by constructing a new bailing-out framework.