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Equity Recourse Notes: Creating Counter†cyclical Bank Capital

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  • Jeremy Bulow
  • Paul Klemperer

Abstract

We propose a new form of hybrid capital for banks, Equity Recourse Notes (ERNs), which (i) ameliorate booms and busts by creating counter†cyclical incentives for banks to raise capital, and so encourage bank lending in bad times; (ii) help solve the too†big†to†fail problem; and (iii) reduce the regulatory system's reliance on accounting measures of capital. ERNs avoid the flaws of existing contingent convertible bonds (cocos) – in particular, they convert more credibly. Future required increases in bank†capital should be permitted to be in the form of either equity or ERNs.

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  • Jeremy Bulow & Paul Klemperer, 2015. "Equity Recourse Notes: Creating Counter†cyclical Bank Capital," Economic Journal, Royal Economic Society, vol. 125(586), pages 131-157, August.
    • Handle: RePEc:wly:econjl:v:125:y:2015:i:586:p:f131-f157
    DOI: 10.1111/ecoj.12301
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    Cited by:

    1. Segal, Maxime & Ólafsson, Sverrir, 2023. "Design of a self-adaptive model for leverage," Finance Research Letters, Elsevier, vol. 54(C).
    2. Inoue, Hitoshi & Nakashima, Kiyotaka & Takahashi, Koji, 2018. "The Emergence of A Parallel World: The Misperception Problem for Bank Balance Sheet Risk and Lending Behavior," MPRA Paper 89088, University Library of Munich, Germany.
    3. Ambrocio, Gene & Hasan, Iftekhar & Jokivuolle, Esa & Ristolainen, Kim, 2020. "Are bank capital requirements optimally set? Evidence from researchers’ views," Journal of Financial Stability, Elsevier, vol. 50(C).
    4. Fiordelisi, Franco & Pennacchi, George & Ricci, Ornella, 2020. "Are contingent convertibles going-concern capital?," Journal of Financial Intermediation, Elsevier, vol. 43(C).
    5. Eric Budish & Robin S. Lee & John J. Shim, 2024. "A Theory of Stock Exchange Competition and Innovation: Will the Market Fix the Market?," Journal of Political Economy, University of Chicago Press, vol. 132(4), pages 1209-1246.
    6. Eberhard Feess & Ansgar Wohlschlegel, 2018. "Bank capital requirements and mandatory deferral of compensation," Journal of Regulatory Economics, Springer, vol. 53(2), pages 206-242, April.
    7. Philippe Oster, 2020. "Contingent Convertible bond literature review: making everything and nothing possible?," Journal of Banking Regulation, Palgrave Macmillan, vol. 21(4), pages 343-381, December.
    8. Mark J. Flannery, 2016. "Stabilizing Large Financial Institutions with Contingent Capital Certificates," Quarterly Journal of Finance (QJF), World Scientific Publishing Co. Pte. Ltd., vol. 6(02), pages 1-26, June.
    9. White, Lucy & Walther, Ansgar, 2019. "Rules versus Discretion in Bank Resolution," CEPR Discussion Papers 14048, C.E.P.R. Discussion Papers.
    10. Tweneboah Senzu, Emmanuel, 2019. "Theoretical perspective of dynamic credit risk analysis and lending model; effective to enterprises of fragile economy," MPRA Paper 91789, University Library of Munich, Germany.
    11. George Pennacchi & Alexei Tchistyi, 2018. "Contingent Convertibles with Stock Price Triggers: The Case of Perpetuities," 2018 Meeting Papers 331, Society for Economic Dynamics.
    12. Will Kerry, 2019. "Finding the Bad Apples in the Barrel: Using the Market Value of Equity to Signal Banking Sector Vulnerabilities," IMF Working Papers 2019/180, International Monetary Fund.

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