Lhe 2022 Bank of Sweden Prize in Economic Sciences, in memory of Alfred Nobel, which Douglas Diamond and Philip Dybvig share with Ben Bernanke, has the merit of once again making people talk about banks, crises and financial regulation. It nevertheless rewards, through the first two, a theory that pays little attention to the reality of the banking sector.
The bank run model (“Bank Runs, Deposit Insurance, and Liquidity”) published in 1983 by MM. Diamond and Dybvig in the Journal of Political Economy is undeniably a founding contribution of contemporary banking theory. It mainly emerges that what makes the bank useful is also what makes it fragile, hence its necessary supervision by the public authorities. Indeed, if the bank exists, explain MM. Diamond and Dybvig, it is because it reconciles the need for liquidity of lenders and the long-term financing of the economy. In doing so, it associates to its balance sheet assets available in the long term and liabilities payable in the short term, which makes it intrinsically fragile: if, for one reason or another, depositors all rush at the same time to the window of the bank, she will not have enough to serve them all and will succumb to panic.
It is not this transformation of maturities that must be prevented, because the same maturity on both sides of the balance sheet would make the raison d’être of the bank disappear. The solution lies, according to MM. Diamond and Dybvig, in public deposit insurance, which discourages depositors from panicking over a yes or a no. In 1983, in the United States, this device has already existed for a long time, introduced by the Banking Act of 1933 shortly after the crisis of 1929 and the bank runs which had taken many banks away. The analysis of MM. Diamond and Dybvig demonstrate just how indispensable it is, not to mention that this deposit guarantee can lead depositors to turn a blind eye to their bank’s risks, and the latter to take advantage of it to take more risks (economists speak of ” moral hazard”). Hence the need to supplement it with regulations governing the activity of banks. To reduce these regulations is to condemn the bank to go wrong. The financial policies of the 1980s paid little attention to this and were, on the contrary, those of banking deregulation and financial liberalisation!
theoretical bubble
Did the two theoreticians only seek to observe and influence the course of events? In many ways, they locked themselves in a theoretical bubble without caring about the outside. In another article entitled “Financial Intermediation and Delegated Monitoring”, published in 1984, in The Review of Economic Studies, Mr. Diamond theorizes the bank from another angle: that of the control of the smooth running of financing by lenders necessarily less informed than the borrowers. By centralizing funding relationships, the bank avoids duplicating control costs. On one condition: that it diversifies its funding sufficiently and is therefore large enough…
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