New Economics Papers
on Banking
Issue of 2010‒09‒25
eighteen papers chosen by
Christian Calmès, Université du Québec en Outaouais

  1. Caught between Scylla and Charybdis? Regulating bank leverage when there is rent seeking and risk shifting By Viral V. Acharya; Hamid Mehran; Anjan Thakor
  2. Risk-return Efficiency, Financial Distress Risk, and Bank Financial Strength Ratings By Changchun Hua; Li-Gang Liu
  3. The effects of national discretions on banks By Isabel Argimón; Jenifer Ruiz
  4. Leveraged borrowing and boom-bust cycles By Patrick A. Pintus; Yi Wen
  5. On the nature of leverage By Yaroslav Ivanenko
  6. Safe and Sound Banking: A Role for Countercyclical Regulatory Requirements? By Gerard Caprio
  7. Fonds propres réglementaires et stabilité bancaire dans les pays émergents By Saadaoui, Zied
  8. The effects of bank capital on lending: what do we know, and what does it mean? By Jose M. Berrospide; Rochelle M. Edge
  9. Foreign Banks in Sub-Saharan Africa - Do North-South and South-South Banks Induce Different Effects on Domestic Banks? By Pohl, Birte
  10. The dynamics in demand and supply - credit constraints in small business bank relationships By Kirschenmann, Karolin
  11. The analysis of the total factors productivity growth in waemu banks:the x efficiency approach By Zoma, Isaїe Armand
  12. Foreign Currency Loans - Demand or Supply Driven? By Brown, Martin; Kirschenmann, Karolin; Ongena; Steven
  13. Financial Turmoil in the Banking Sector and the Asian Lamfalussy Process: The Case of Four Economies By Chen-Min Hsu; Chih-Feng Liao
  14. « La crise financière et l'application des accords de Bâle : est ce le meilleur remède ? ». By Hamza Fekir
  15. Short-run and Long-run Effects of Banking in a New Keynesian Model By Miguel Casares; Jean-Christophe Poutineauy
  16. Capturing the evolution of dealer credit terms related to securities financing and OTC derivatives: some initial results from the new Senior Credit Officer Opinion Survey on Dealer Financing Terms By Matthew J. Eichner; Fabio M. Natalucci
  17. What credit card puzzle? Precaution, variable debt limits, and what we can learn from the small debts of poor people By Scott Fulford
  18. Driven by the Markets? ECB Sovereign Bond Purchases and the Securities Markets Programme By Ansgar Belke

  1. By: Viral V. Acharya; Hamid Mehran; Anjan Thakor
    Abstract: This paper examines how much capital banks should optimally hold. Our model encompasses different kinds of moral hazard studied in banking: asset substitution (or risk shifting, e.g., making risky, negative net present value loans), managerial rent seeking (e.g., shirking or investing in inefficient “pet” projects that yield private benefits), and the free cash flow problem (manifesting as inefficient consumption of cash for perquisites by the manager). The privately optimal capital structure of the bank balances the benefit of leverage as reflected in the market discipline imposed by uninsured creditors on rent seeking on the one hand and the cost of leverage as reflected in the asset substitution induced at high levels of leverage on the other hand. Under some conditions, the capital structure resolves all the moral hazard problems we study, but under other conditions, the goal of having the market discipline of leverage clashes with the goal of having the benefit of equity capital in attenuating asset substitution moral hazard. In this case, private contracting must tolerate some form of inefficiency and bank value is not maximized as it is in the first best. Despite this, there is no economic rationale for regulation. However, when bank failures are correlated and en masse failures can impose significant social costs, regulators may intervene ex post via bank bailouts. Anticipation of this generates multiple Nash equilibria, one of which features systemic risk in that all banks choose inefficiently high leverage, take excessively correlated asset risk, and, because debt is paid off by regulators when banks fail en masse, market discipline is compromised. While a simple minimum (tier-1) capital requirement suffices to restore efficiency under some conditions, there are also conditions under which an optimal arrangement to contain the build-up of systemic risk takes the form of the regular (tier-1) capital requirement plus a “special capital account” that involves 1) building up capital via dividend payout restrictions, 2) investment of the retained earnings in designated assets, and 3) contingent distribution provisions.
    Keywords: Bank capital ; Bank reserves ; Financial leverage ; Systemic risk ; Bank failures
    Date: 2010
  2. By: Changchun Hua; Li-Gang Liu (Asian Development Bank Institute)
    Abstract: This paper investigates whether there is any consistency between banks’ financial strength ratings (bank rating) and their risk-return profiles. It is expected that banks with high ratings tend to earn high expected returns for the risks they assume and thereby have a low probability of experiencing financial distress. Bank ratings, a measure of a bank’s intrinsic safety and soundness, should therefore be able to capture the bank’s ability to manage financial distress while achieving risk-return efficiency. We first estimate the expected returns, risks, and financial distress risk proxy (the inverse z-score), then apply the stochastic frontier analysis (SFA) to obtain the risk-return efficiency score for each bank, and finally conduct ordered logit regressions of bank ratings on estimated risks, risk-return efficiency, and the inverse z-score by controlling for other variables related to each bank’s operating environment. We find that banks with a higher efficiency score on average tend to obtain favorable ratings. It appears that rating agencies generally encourage banks to trade expected returns for reduced risks, suggesting that these ratings are generally consistent with banks’ risk-return profiles.
    Keywords: banking, financial strength ratings, risk-return profiles, stochastic frontier analysis
    JEL: D21 D24 G21 G24 G28 G32
    Date: 2010
  3. By: Isabel Argimón (Banco de España); Jenifer Ruiz (European University Institute, Florence)
    Abstract: The EU's transposition of Basel II into European law has been done through the Capital Requirements Directive (CRD). Although the Directive establishes, in general, uniform rules to set capital requirements across European countries, there are some areas where the Directive allows some heterogeneity. In particular, countries are asked to choose among different possibilities when transposing the Directive, which are called national discretions (ND). The main objective of our research is to use such observed heterogeneity to gather empirical evidence on the effects on European banks of more or less stringency and more or less risk sensitivity in capital requirements. Following the approach in Barth et al. (2004, 2006, 2008) we build index numbers for groups of national discretions and applying Altunbas et al. (2007) approach, we provide evidence on their effect on banks' risk, capital, efficiency and cost. We show that more stringency and more risk sensitivity in regulation not always result in a trade off between efficiency and solvency: the impact depends on the area of national discretion on which such characteristics apply.
    Keywords: Prudential regulation, capital requirements, bank capital, risk, efficiency
    JEL: E61 G21 G28
    Date: 2010–09
  4. By: Patrick A. Pintus; Yi Wen
    Abstract: Investment booms and asset "bubbles" are often the consequence of heavily leveraged borrowing and speculations of persistent growth in asset demand. We show theoretically that dynamic interactions between leveraged borrowing and persistent asset demand can generate a multiplier-accelerator mechanism that transforms a one-time technological innovation into large and long-lasting boom-bust cycles. The predictions are consistent with the basic features of investment booms and the consequent asset-market crashes led by excessive credit expansion.
    Keywords: Asset pricing ; Credit
    Date: 2010
  5. By: Yaroslav Ivanenko
    Abstract: Financial leverage can be regarded as an object of choice or a decision. We show how this optics allows perceiving the recently introduced metrics of see-through-leverage, which proved to be very useful in understanding the phenomenology of the recent economic crisis.
    Date: 2010–09
  6. By: Gerard Caprio (Williams College)
    Abstract: Most explanations of the crisis of 2007-2009 emphasize the role of the preceding boom in real estate and asset markets in a variety of advanced countries. As a result, an idea that is gaining support among various groups is how to make Basel II or any regulatory regime less procyclical. This paper addresses the rationale for and likely contribution of such policies. Making provisioning (or capital) requirements countercyclical is one way potentially to address procyclicality, and accordingly it looks at the efforts of the authorities in Spain and Colombia, two countries in which countercyclical provisioning has been tried, to see what the track record has been. As explained there, these experiments have been at best too recent and limited to put much weight on them, but they are much less favorable for supporting this practice than is commonly admitted. The paper then addresses concerns and implementation issues with countercyclical capital or provisioning requirements, including why their impact might be expected to be limited, and concludes with recommendations for developing country officials who want to learn how to make their financial systems less exposed to crises.
    Keywords: Financial crisis, Securitization, Regulation and Supervision, Safety Nets
    JEL: G21 G28 G32
    Date: 2009–12
  7. By: Saadaoui, Zied
    Abstract: The Basel capital accords were established by the banking supervisory authorities of the G10 countries, members of the Basel Committee on Banking Supervision, and were applied to the international banks based in these countries. But, do the Basel accords bring more banking stability to emerging countries? In fact, several studies showed that economic and institutional features of these countries, may contribute to an inefficient prudential impact of capital requirements on banks’ behaviour. These arguments will be examined throughout this paper.
    Keywords: Basel accords; Emerging countries; Banking stability; Financial liberalization; institutional framework
    JEL: G28 G21
    Date: 2009–11
  8. By: Jose M. Berrospide; Rochelle M. Edge
    Abstract: The effect of bank capital on lending is a critical determinant of the linkage between financial conditions and real activity, and has received especial attention in the recent financial crisis. We use panel-regression techniques--following Bernanke and Lown (1991) and Hancock and Wilcox (1993, 1994)--to study the lending of large bank holding companies (BHCs) and find small effects of capital on lending. We then consider the effect of capital ratios on lending using a variant of Lown and Morgan's (2006) VAR model, and again find modest effects of bank capital ratio changes on lending. These results are in marked contrast to estimates obtained using simple empirical relations between aggregate commercial-bank assets and leverage growth, which have recently been very influential in shaping forecasters' and policymakers' views regarding the effects of bank capital on loan growth. Our estimated models are then used to understand recent developments in bank lending and, in particular, to consider the role of TARP-related capital injections in affecting these developments.
    Date: 2010
  9. By: Pohl, Birte
    Abstract: In theory, the presence of foreign banks has spillover and competition effects on domestic banks leading to higher efficiency. Next to foreign banks from industrialized countries (north-south banks), foreign banks from developing countries (south-south banks) are important investors in Sub-Saharan Africa (SSA). South-south banks are either regional investors or are hosted in developing countries beyond SSA. This paper studies the competitive advantages and strategies of north-south as well as regional and non-regional south-south banks from a theoretical perspective. Moreover, the study examines theoretically whether these foreign banks induce different effects on domestic banks. To explore these issues empirically, 80 domestic banks in 17 countries of SSA between 1999 and 2006 are considered. The results show that the presence of north-south and south-south banks positively affects the costs of domestic banks. This suggests that domestic banks invest in the modern practices of foreign banks. Domestic banks margins are positively related to the presence of north-south and nonregional south-south banks indicating a lack of competitive pressure. In contrast, regional south-south banks have a negative impact on the margins of domestic banks. --
    Keywords: south-south banks,spillover and competition effects,efficiency
    JEL: F21 F23 F36
    Date: 2010
  10. By: Kirschenmann, Karolin
    Abstract: This paper studies how credit constraints develop over bank relationships. I analyze a unique dataset of matched loan application and loan contract information and measure credit constraints as the ratio of requested to granted loan amounts. I find that the most important determinants of receiving smaller than requested loan amounts are firm age and size at the time of the first interaction between borrower and bank. Over loan sequences, credit constraints decease most pronouncedly in the beginning of relationships and for the initially young and small firms. Moreover, the structure of the dataset allows me to disentangle the demand and supply effects behind these observed credit constraints. I find that the gap between requested and granted loan amounts decreases because both sides converge. If previous credit constraints were large, requested amounts increase more moderately, while granted amounts increase more strongly than in the case of small previous constraints. The findings are a sign of the use of dynamic incentives at the bank side to overcome information problems when contracting repeatedly with opaque borrowers. The results further suggest that, particularly in the beginning of a bank relationship, borrowers learn from their previous experience with credit constraints and adjust their demand accordingly. --
    Keywords: Relationship lending,credit constraints,small business lending,asymmetric information,learning
    JEL: D82 G20 G21 G30
    Date: 2010
  11. By: Zoma, Isaїe Armand
    Abstract: In this paper, we make an analysis of productivity’s gaps in WAEMU’s banks; the intra-organizational strategy is privileged. For that purpose, we study the progression of the global factors productivity using the Data Envelopment Analysis (DEA), and then the X efficiency scores are calculated using stochastical frontier approach (SFA). The study period (2002 to 2006) corresponds to the post financial liberalization in the zone and to a changed banking and financial environment. We find that the global productivity of the factors remained relatively unchanged but that globally the X efficiency of the banks lightly decreased, remaining nevertheless at a relatively high level of the order of 80% .Big banks, of the viewpoint of their size and the private and semi-public banks, of the viewpoint of their capital structure, have the biggest mean scores of X efficiency.
    Keywords: bank; WAEMU; productivity; global productivity; X efficiency; DEA; SFA
    JEL: D24 G21
    Date: 2010–06
  12. By: Brown, Martin; Kirschenmann, Karolin; Ongena; Steven
    Abstract: Motivated by current concerns over foreign currency exposures in emerging economies, we examine the currency denomination of business loans made in Bulgaria prior to the current crisis. We analyze information on the requested and granted currency for more than hundred thousand loans granted by one bank to sixty thousand different firms during the period 2003- 2007. This unique data set allows us to disentangle demand-side from supply-side determinants of foreign currency loans. We find that the bank in our sample often grants loans in foreign currency even when a firm requests a loan in local currency. The bank lends in foreign currency, not only to less risky firms, but also when the firm requested a large or long-term loan and after the bank itself received more funding in euro. These results suggest that foreign currency borrowing in Eastern Europe is not only be driven by borrowers who try to benefit from lower interest rates but may be partly supply-driven with banks hesitant to lend long-term in local currency and eager to match the currency structure of their assets and liabilities. --
    Keywords: foreign currency debt,banking
    JEL: G21 G30 F34 F37
    Date: 2010
  13. By: Chen-Min Hsu; Chih-Feng Liao (Asian Development Bank Institute)
    Abstract: This paper investigates the prevailing financial regulatory structures and impact of the current financial turmoil on banking performance in four Asian economies: the People's Republic of China (PRC); Hong Kong, China; Singapore; and Taipei,China. Both the PRC and Hong Kong, China operate under a fragmented financial regulatory structure, while Singapore and Taipei,China have integrated structures. We examine the role of an integrated financial regulatory structure in helping financial institutions mitigate the impact of the financial crisis, using financial indicators of banks’ capital structure and operating performance in these four economies between 2003 and 2008. Our analysis of the indicators reveals that banking performance under a fragmented financial regulatory structure is not worse than under integrated regulation. This implies that financial regulatory structure is not the main reason why Asian financial institutions suffered only limited losses from the current global financial crisis. However, given the growing complexity of the global financial system, and the relative weakness of current financial regulatory structures in Asia, this paper suggests that East Asian governments should refer to the Lamfalussy Process in the European Union and set up an Asia Financial Stability Dialogue to facilitate policy coordination for regional financial sector stability and development.
    Keywords: China, Hong Kong, Singapore, Taiwan, financial regulatory structures, banking, finance, Asia Financial Stability Dialogue
    JEL: F42 G18 G21
    Date: 2010
  14. By: Hamza Fekir (LEG - Laboratoire d'Economie et de Gestion - CNRS : UMR5118 - Université de Bourgogne)
    Abstract: Afin de s'adapter à la libéralisation de la sphère financière entamée dans les années 80, marquée notamment par la fin de l'encadrement de crédit, la disparition des différentes formes de protection de l'Etat dont bénéficiaient les banques, et la privatisation de la quasi-totalité des établissements en Europe, la réglementation bancaire a évolué vers une approche prudentielle, perçue comme le seul mode de régulation n'entrant pas en contradiction avec les règles du marché. La réglementation bancaire actuelle ‘Bâle II' s'appuie sur la supervision, la discipline du marché et les ratios prudentiels, en particulier les ratios des fonds propres minimaux. La crise financière dénommée de ‘subprime' qu'a traversé le monde durant ces dernières années a poussé plusieurs économistes à se demander si cette réglementation prudentielle est toujours d'actualité, et surtout pourquoi n'a pas-t-elle permis de prévoir et d'éviter la crise actuelle. L'objet donc, de cet article est de présenter l'architecture du nouvel accord de Bâle qui se base sur trois piliers se consolidant mutuellement, et surtout d'expliquer quel rôle a-t-il pu jouer dans cette crise financière.
    Keywords: Banque, réglementation prudentielle, risques, crise financière.
    Date: 2010
  15. By: Miguel Casares (Departamento de Economía-UPNA); Jean-Christophe Poutineauy (Faculté des Sciences Economiques, Université de Rennes I, Rennes, France)
    Abstract: This paper introduces both endogenous capital accumulation and deposit-in-advance requirements in the banking model of Goodfriend and McCallum (2007). Impulse response functions from technology and monetary shocks show some attenuation effect due to the procyclical behavior of the marginal finance cost. In addition, an adverse financial shock produces sizeable realistic declines in output, inflation and interest rates. In the long-run analysis, one economy where banking intermediation requires 4% of total labor force suffers from a permanent welfare cost equivalent to 1.96% of output.
    Keywords: financial attenuator, financial shocks, welfare cost of banking.
    JEL: E32 E43 E44
    Date: 2010
  16. By: Matthew J. Eichner; Fabio M. Natalucci
    Abstract: In the period prior to the financial crisis, leverage in the financial system increased substantially. This buildup was likely facilitated by, among other factors, a loosening of credit terms related to OTC derivatives and securities financing transactions. However, little or no systematic data on these trends were available at the time. The new Senior Credit Officer Opinion Survey on Dealer Financing Terms, which was conducted for the first time in June 2010, partially fills this gap. The new survey provides qualitative information about changes in credit terms and conditions across the entire range of these transactions, and the evolution of market conditions and conventions applicable to such activities.
    Date: 2010
  17. By: Scott Fulford (Boston College)
    Abstract: Many people in the United States have both a revolving credit card balance on which they pay a high rate of interest, and have liquid checking or savings accounts on which they earn little interest. Why would so many people throw so much money away? This paper shows that it may not be much of a puzzle: if credit limits may change unexpectedly, that creates a reason for people to hold on to cash or savings as consumption insurance against the times when they have a high benefit from consumption but cannot borrow. I show that this approach can explain the credit card puzzle with low probabilities of losing access to credit for a wide range of preferences. The approach in this paper offers a novel channel for how financial uncertainty can affect real decisions: if the probability of losing access to credit increases, consumers will increase saving and decrease consumption to add to their insurance, even without "real" shocks to income.
    Keywords: credit, debt, liquidity, credit card puzzle, financial uncertainty
    JEL: E21
    Date: 2010–09–01
  18. By: Ansgar Belke
    Abstract: After the dramatic rescue package for the euro area, the governing council of the European Central Bank decided to purchase European government bonds – to ensure an “orderly monetary policy transmission mechanism”. Many observers argued that, by bond purchases, national fi scal policies could from now on dominate the common monetary policy. This note argues that they are quite right. The ECB has indeed become more dependent in political and fi nancial terms. The ECB has decided to sterilise its bond purchases – compensating those purchases through sales of other bonds or money market instruments to keep the overall money supply unaff ected. This is to counter accusations that the ECB is monetizing government debt. This note addresses how eff ective these sterilisation policies are. One problem inherent in the sterilization approach is that it reshuffl es only the liability side of the ECB’s balance sheet. It is not well-suited to either diminish the bloated ECB balance sheet or to remove the potentially toxic covered or sovereign bonds from it. In addition, the intake of potentially toxic assets as collateral and by outright purchases in the central bank balance sheet artifi cially keeps the asset prices up and does not prevent the (quite intransparent) risk transfer from one group of countries to another to occur. Finally, sterilization takes place in a setting of still ultra-lax monetary policies, i.e. of new liquidity-enhancing operations with unlimited allotment, and, hence, does not appear to be overly irrelevant. A credible strategy to deal with the fi nancial crisis should deal primarily with the asset side of the ECB balance sheet. This note also addresses negative side eff ects of the SMP such as, for instance, the fact that the ECB is currently curbing real returns at the bond markets through its bond purchases. Currently, the real return of Spanish, Portuguese and Italian bonds only amounts to 3 to 3.5 percent. This is almost certainly not enough to attract private capital these countries are heavily dependent on. The most worrisome aspect is that the euro area has stumbled into a perpetuation of unconventional monetary policies by the execution of the SMP. Of course, the intentions are to bail out banks (but not just banks) and to support governments with issuance. What is diffi cult to see at the moment is how, once started, it will be able to stop. Finally, the ECB has been too silent about the following key questions which tends to frighten potential private investors in euro area sovereign bonds: What exactly is the composition of the sovereign bonds the ECB is buying? Which criteria are applied to select bonds to purchase? How is the ECB’s bond purchase strategy characterized in cases and periods of primary issuance? How long is the SMP going to last and what amounts may be spent?
    Keywords: accountability; bail-out; bond purchases; central bank independence; insolvency risk; Securities Markets Programme; transparency
    JEL: G32 E42 E51 E58 E63
    Date: 2010–06

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