Financial institutions are increasingly linked internationally. As a
result, financial crises and government intervention have stronger
effects beyond borders. We provide a model of international contagion
allowing for bank bailouts. While a social planner trades off tax
distortions, liquidation losses, and intra- and intercountry income
inequality, in the noncooperative game between governments there
are inefficiencies due to externalities, a lack of burden sharing,
and free riding. We show that, in absence of cooperation, stronger
interbank linkages make government interests diverge, whereas
cross-border asset holdings tend to align them. We analyze different
forms of cooperation and their effects on global and national welfare.
"Bank Bailouts, International Linkages, and Cooperation."
American Economic Journal: Economic Policy,
Banks; Depository Institutions; Micro Finance Institutions; Mortgages
Financial Institutions and Services: Government Policy and Regulation