The Limits to Partial Banking Unions: A Political Economy Approach

The Limits to Partial Banking Unions: A Political Economy Approach

American Economic Review (accepted). November
2017

This paper studies the welfare e§ects of a ëpartial banking unioníin which cross-country transfers for bailouts are set at the supranational level, but policymakers in member countries decide the distribution of funds. This allows the self-interested policymakers to extract rents in the bailout process. In equilibrium, such a banking union can actually lower the welfare of citizens in the country receiving transfers compared to the autarky case, as the receiving country must increase its share of the overall burden of the bailout, in order to compensate for the rentseeking distortion. Supranational Öscal rules are ine§ective at reversing this result.