Abstract
Financial safety nets are embedded in national regulatory systems that embrace at least three conflicting goals: maximizing aggregate social welfare, rescuing distressed institutions, and avoiding blame for things that go wrong. This paper develops a model that shows how opportunistic managers of a financial institution can use financial engineering to increase its access to safety net subsidies in a combination of overt and covert ways. Overtly, it can increase its size, complexity, and geographic footprint. These actions increase the political influence it can wield to subvert regulation. Covertly, it can increase its leverage and portfolio volatility in ways that existing monitoring technologies do not fully register.
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