Arguably expectations of safety net support have increased the level of cross-border interbank lending from that which would be supported by unsubsidized markets themselves. This would suggest resource misallocation. Accordingly, it might be useful to consider ways in which some added discipline could be imposed on the interbank market. Such discipline, in principle, could be imposed on either debtor or creditor banks.
For example, capital requirements could be raised on borrowing banks by making the required level of capital dependent not just on the nature of the banks’ assets but also on the nature of their funding. An increase in required capital can be thought of as providing a larger cushion for the sovereign guarantor in the event of a bank’s failure.