Too-Small-To-Survive versus Too-Big-To-Fail banks: The two sides of the same coin.

Abstract

In the recent crisis, the U.S. authorities bailed out numerous banks through TARP, whilst let many others to fail as going concern entities. Even though both interventions fully protect depositors, a bail out represents an implied subsidy to shareholders, which is not yet the case with closures where creditors are not subsidised. We investigate this non-uniform policy, demonstrating that size and not performance is the decision variable that endogenously determines one threshold below which banks are treated as TSTS by regulators and another one above which are considered to be TBTF. Our results suggest that regulators do not bailout the shareholders or the other uninsured creditors of a distressed bank if the bank is considered to be TSTS. Further, that the more complex a bank is the more likely is to be bailed out and, hence, to have all of its creditors protected. Banks which are perceived as being TBTF are also found to be too-complex-to-fail.