Zeng, Jing
(2014)
Essays on financial intermediation.
PhD thesis, London School of Economics and Political Science.
Abstract
This thesis investigates the effects of financial frictions such as symmetric information on aspects of financial intermedation process, in particular banks and the securitisation industry. In the first paper, “Contingent capital structure”, I study the optimal financing arrangement of a bank with risk-shifting incentives and private information, in an environment with macroeconomic uncertainty. Leverage mitigates adverse selection problems owing to debt information insensitivity, but leads to excessive risk-taking. I
show that the optimal leverage is procyclical, and contingent convertible (CoCo) bonds emerge as part of the implementation of the optimal contingent capital structure. However, the laissez-faire equilibrium entails excessive leverage and risk-taking, due to a bank’s private incentives to minimise market mispricing of its securities. It is socially optimal to impose countercyclical capital requirements. In the second paper, “Counter-cyclical foreclosure for securitisation”, John Chi-fong Kuong and I investigate the optimal
forefclosure policy of delinquent mortgages in a model of mortgage-backed securitisation under asymmetric information. We show that it is optimal for a securitiser to commit to an ex-post value-destroying foreclosure policy to reduce the signalling cost. The optimal
foreclosure policy, which can be implemented by contracting with a third-party mortgage-servicer, features a excessive foreclosure rate for a mortgage pools of poor quality, implying a counter-cyclical aggregate foreclosure rate and pro-cyclical repossessed
property prices. Finally, the third paper, “Bankruptcy-remote securitisation with implicit guarantee”, explores the role of securitisation in the funding of banks under asymmetric information. In a two-period model, I argue that securitisation as an optimal funding source rely on both features. While implicit guarantee mitigates the asymmetric information problem, bankruptcy-remoteness allows a bank to shield its unsecuritised cash flows in a bad state, thereby relaxing its future financing contraint.
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