Resolving Failed Banks: Uncertainty, Multiple Bidding & Auction Design

Jason Allen, Bank of Canada, Robert Clark, Queen's University, Brent Hickman, Olin School of Business, Washington University in St. Louis, and Eric Richert, University of Chicago

The FDIC resolves insolvent banks with scoring auctions. Although the structure of the scoring rule is known to bidders, they are uncertain about how the FDIC trades off different bid components. Scoring-rule uncertainty motivates bidders to submit multiple bids for the same failed bank. To evaluate the effects of uncertainty and multiple bidding for FDIC costs we develop a methodology for analyzing multidimensional bidding when the auctioneers scoring weights are unknown to bidders. We estimate private valuations for failed-bank assets during the great financial crisis, and compute counterfactuals in absence of scoring uncertainty. Our findings imply a substantial reduction in FDIC resolution costs of between 29.8% ($8.2Billion) and 44.6% ($12.3Billion). These savings can reduce policy-driven banking-sector distortions, since FDIC resolution costs are covered either through special levies on banks or through loans from the US Treasury. Our analyses also shed new light on optimal bid portfolio choice in combinatorial auctions.