Financial Institutions, Financial Contagion, and Financial Crises¤

In this paper …nancial contagion and crises are endogenized through the in-teractions among corporations, banks and the interbank market. We show that the lack of …nancial disciplines in a single-bank-…nancing economy generates in-formational problems and thus the malfunction of the interbank market, which constitutes a mechanism of …nancial contagion and may lead to a …nancial crisis. In contrast, …nancial disciplines in an economy with diversi…ed …nancial institu-tions lead to timely information disclosure from …rms to banks and improve the informational environment of the interbank market. With symmetric informa-tion in the interbank market, bank runs are contained to insolvent banks and …nancial crises are prevented. Our theory sheds light to the causes and timin