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Managerial Overconfidence and Bank Bailouts

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  • Gietl, Daniel
  • Kassner, Bernhard
Abstract
Empirical evidence suggests that managerial overconfidence and government guarantees contribute substantially to excessive risk-taking in the banking industry. This paper incorporates managerial overconfidence and limited bank liability into a principal-agent model, where the bank manager unobservably chooses the level of risk. An overconfident manager overestimates the returns to risk. Our main result is that managerial overconfidence necessitates an intervention into banker pay. This is due to the bank’s exploitation of the manager’s overvaluation of bonuses, which causes excessive risk-taking in equilibrium and is amplified by government guarantees. Moreover, we show that an optimal bonus tax rises in overconfidence, if returns to risk-taking are positive. Finally, the model indicates that overconfident managers are more likely to be found in banks with large government guarantees, low bonus taxes, and lax capital requirements.

Suggested Citation

  • Gietl, Daniel & Kassner, Bernhard, 2020. "Managerial Overconfidence and Bank Bailouts," Journal of Economic Behavior & Organization, Elsevier, vol. 179(C), pages 202-222.
    • Handle: RePEc:eee:jeborg:v:179:y:2020:i:c:p:202-222
    DOI: 10.1016/j.jebo.2020.08.019
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    Cited by:

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    2. Akhtaruzzaman, Md & Chiah, Mardy & Docherty, Paul & Zhong, Angel, 2021. "Betting against bank profitability," Journal of Economic Behavior & Organization, Elsevier, vol. 192(C), pages 304-323.
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    4. Alper Gormus & Ugur Soytas, 2023. "Financial Sector Troubles and Energy Markets," International Journal of Energy Economics and Policy, Econjournals, vol. 13(2), pages 357-363, March.
    5. Stefano Colonnello & Giuliano Curatola & Shuo Xia, 2024. "When Does Linking Pay to Default Reduce Bank Risk?," Working Papers 2024: 07, Department of Economics, University of Venice "Ca' Foscari".

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    More about this item

    Keywords

    Overconfidence; Bailouts; Banking regulation; Bonus taxes;
    All these keywords.

    JEL classification:

    • H20 - Public Economics - - Taxation, Subsidies, and Revenue - - - General
    • H30 - Public Economics - - Fiscal Policies and Behavior of Economic Agents - - - General
    • G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation
    • G38 - Financial Economics - - Corporate Finance and Governance - - - Government Policy and Regulation
    • G41 - Financial Economics - - Behavioral Finance - - - Role and Effects of Psychological, Emotional, Social, and Cognitive Factors on Decision Making in Financial Markets

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