New Economics Papers
on Banking
Issue of 2011‒01‒03
thirty-one papers chosen by
Christian Calmès, Université du Québec en Outaouais

  1. Financial intermediaries, leverage ratios, and business cycles By Mimir, Yasin
  2. Foreign bank lending and information asymmetries in China By Pessarossi, Pierre; Godlewski, Christophe J.; Weill, Laurent
  3. The Impact of Liquidity on Bank Profitability By Étienne Bordeleau; Christopher Graham
  4. Caught between Scylla and Charybdis: regulating bank leverage when there is rent seeking and risk shifting By Viral V. Acharya; Hamid Mehran; Anjan V. Thakor
  5. Monetary Policy, Leverage, and Bank Risk-Taking By Luc Laeven; Giovanni Dell'Ariccia; Robert Marquez
  6. The impact of the originate-to-distribute model on banks before and during the financial crisis By Richard J. Rosen
  7. Bank Capital: Lessons from the Financial Crisis By Ouarda Merrouche; Enrica Detragiache; Asli Demirgüç-Kunt
  8. Leverage, Balance Sheet Size and Wholesale Funding By H. Evren Damar; Césaire A. Meh; Yaz Terajima
  9. Summer workshop on money, banking, payments and finance: an overview By Ed Nosal; Randall Wright
  10. Introduction to the macroeconomic dynamics: special issues on money, credit, and liquidity By Ed Nosal; Christopher Waller; Randall Wright
  11. Optimal bonuses and deferred pay for bank employees : implications of hidden actions with persistent effects in time By Arantxa Jarque; Edward S. Prescott
  12. Did the Market Signal Impending Problems at Northern Rock? An Analysis of Four Financial Instruments By Paul Hamalainen; Adrian Pop; Max Hall; Barry Howcroft
  13. Monetary Policy and Excessive Bank Risk Taking By Itai Agur; Maria Demertzis
  14. Credit allocation, capital requirements and output By Jokivuolle, Esa; Kiema, Ilkka; Vesala, Timo
  15. Stress testing banks' profitability: the case of French banks By Coffinet, J.; Lin, S.
  16. Do specialization benefits outweigh concentration risks in credit portfolios of German banks? By Böve, Rolf; Düllmann, Klaus; Pfingsten, Andreas
  17. Banking Sector Performance in Some Latin American Countries: Market Power versus Efficiency By Georgios E. Chortareas; Claudia Girardone; Jesus Gustavo Garza-Garcia
  18. Into the Great Unknown: Stress Testing with Weak Data By Li L. Ong; Rodolfo Maino; Nombulelo Duma
  19. Contagion Between European and US Banks: Evidence from Equity Prices By Daniel Fricke
  20. Credit Quantity and Credit Quality: Bank Competition and Capital Accumulation By Nicola Cetorelli; Pietro Peretto
  21. Predicting Financial Distress in a High-Stress Financial World: The Role of Option Prices as Bank Risk Metrics By Jérôme Coffinet; Adrian Pop; Muriel Tiesset
  22. Branching of banks and union decline By Alexey Levkov
  23. What Caused the Global Financial Crisis - Evidence on the Drivers of Financial Imbalances 1999 - 2007 By Erlend Nier; Ouarda Merrouche
  24. Why do banks reward their customers to use their credit cards? By Sumit Agarwal; Sujit Chakravorti; Anna Lunn
  25. A dynamic model of unsecured credit By Daniel R. Sanches
  26. The Domestic and International Effects of Interstate U.S. Banking By Fabio Ghironi; Viktors Stebunovs
  27. Bank Competition and International Financial Integration: Evidence Using a New Index By Gurnain Kaur Pasricha
  28. Asymmetric and Imperfect Collateralization, Derivative Pricing, and CVA By Masaaki Fujii; Akihiko Takahashi
  29. Bank Testing Linear Factor Pricing Models with Large Cross-Sections: A Distribution-Free Approach By Sermin Gungor; Richard Luger
  30. Can combining credit with insurance or savings enhance the sustainability of microfinance institutions? By Koen Rossel-Cambier
  31. Real and financial tradeoffs in non-listed firms: Cash flow sensitivities and how they change with shocks to firms' main-bank By Charlotte Østergaard; Amir Sasson; Bent E. Sørensen

  1. By: Mimir, Yasin
    Abstract: I document cyclical properties of aggregate measures of liabilities, equity, and leverage ratio in the U.S. financial sector and those of credit spread. I find that (i) liabilities and equity are procyclical, leverage ratio is acyclical, and credit spread is countercyclical, (ii) financial variables are three to ten times more volatile than output, and (iii) financial variables lead the business cycle. I present a dynamic stochastic general equilibrium model with profit maximizing banks where bank equity mitigates a moral hazard problem between banks and their depositors. The driving sources of business cycles are shocks to bank equity as well as standard productivity shocks. The model generates real and financial fluctuations consistent with the U.S. data. The model also delivers some policy prescriptions about capital adequacy requirements of banks.
    Keywords: Banks; Financial Fluctuations; Credit Frictions; Bank Equity; Real Fluctuations
    JEL: E32 E44 E10 E20
    Date: 2010–09–01
  2. By: Pessarossi, Pierre (BOFIT); Godlewski, Christophe J. (BOFIT); Weill, Laurent (BOFIT)
    Abstract: This paper considers whether information asymmetries affect the willingness of foreign banks to participate in syndicated loans to corporate borrowers in China. In line with theoretical literature, ownership concentration of the borrowing firm is assumed to influence information asymmetries in the relationship between the borrower and the lender. We analyze how ownership concentration influences the participation of foreign banks in a loan syndicate using a sample of syndicated loans granted to Chinese borrowers in the period 2004-2009 for which we have information on ownership concentration. We observe that greater ownership concentration of the borrowing firm does not positively influence participation of foreign banks in the loan syndicate. Additional estimations using alternative specifications provide similar results. As foreign banks do not react positively to ownership concentration, we conclude that information asymmetries are not exacerbated for foreign banks relative to local banks in China. Moreover, it appears that increased financial leverage discourages foreign bank participation, suggesting that domestic banks are less cautious in their risk management.
    Keywords: bank; foreign investors; information asymmetry; loan; syndication; China
    JEL: G21 P34
    Date: 2010–12–30
  3. By: Étienne Bordeleau; Christopher Graham
    Abstract: The recent crisis has underlined the importance of sound bank liquidity management. In response, regulators are devising new liquidity standards with the aim of making the financial system more stable and resilient. In this paper, the authors analyse the impact of liquid asset holdings on bank profitability for a sample of large U.S. and Canadian banks. Results suggest that profitability is improved for banks that hold some liquid assets, however, there is a point at which holding further liquid assets diminishes a banks’ profitability, all else equal. Moreover, empirical evidence also suggests that this relationship varies depending on a bank’s business model and the state of the economy. These results are particularly relevant as policymakers devise new standards establishing an appropriate level of liquidity for banks. While it is generally agreed upon that banks undervalued liquidity prior to the recent financial crisis, one must also consider the tradeoff between resilience to liquidity shocks and the cost of holding lower-yielding liquid assets as the latter may impact banks’ ability to generate revenues, increase capital and extend credit.
    Keywords: Financial system regulation and policies; Financial institutions; Financial stability
    JEL: G21 G32 G33
    Date: 2010
  4. By: Viral V. Acharya; Hamid Mehran; Anjan V. Thakor
    Abstract: Banks face two moral hazard problems: asset substitution by shareholders (e.g., making risky, negative net present value loans) and managerial rent seeking (e.g., investing in inefficient “pet” projects or simply being lazy and uninnovative). The privately-optimal level of bank leverage is neither too low nor too high: It balances effi ciently the market discipline imposed by owners of risky debt on managerial rent-seeking against the asset-substitution induced at high levels of leverage. However, when correlated bank failures can impose significant social costs, regulators may bail out bank creditors. Anticipation of this generates an equilibrium featuring systemic risk in which all banks choose inefficiently high leverage to fund correlated assets. A minimum equity capital requirement can rule out asset substitution but also compromises market discipline by making bank debt too safe. The optimal capital regulation requires that a part of bank capital be unavailable to creditors upon failure, and be available to shareholders only contingent on good performance.
    Keywords: Bank capital ; Moral hazard ; Systemic risk
    Date: 2010
  5. By: Luc Laeven; Giovanni Dell'Ariccia; Robert Marquez
    Abstract: We provide a theoretical foundation for the claim that prolonged periods of easy monetary conditions increase bank risk taking. The net effect of a monetary policy change on bank monitoring (an inverse measure of risk taking) depends on the balance of three forces: interest rate pass-through, risk shifting, and leverage. When banks can adjust their capital structures, a monetary easing leads to greater leverage and lower monitoring. However, if a bank's capital structure is fixed, the balance depends on the degree of bank capitalization: when facing a policy rate cut, well capitalized banks decrease monitoring, while highly levered banks increase it. Further, the balance of these effects depends on the structure and contestability of the banking industry, and is therefore likely to vary across countries and over time.
    Keywords: Banks , Capital , Central bank policy , Credit risk , Economic models , Financial intermediation , Monetary policy , Risk management ,
    Date: 2010–12–03
  6. By: Richard J. Rosen
    Abstract: The growth of securitization made it easier for banks to sell home mortgage loans that they originated. I explore how mortgage sales affected banks in the years leading up to the financial crisis that began in 2007 and how their pre-crisis mortgage sales affected banks during the crisis. Loan sales are important because most banks sell mortgages as part of the securitization process, but few actually do the securitization. I find that stock returns increase when banks increase sales of mortgages used for refinancing rather than home purchase, suggesting that some banks scale up lending during refi booms. It is this flexibility that is both a plus and a potential minus of this model, since banks profited by scaling up during refi booms, but borrowers during refi booms were riskier than at other times, possibly adding risk to the financial system. I also find that losses during the financial crisis were related to pre-crisis mortgage sales, with the losses being roughly of the same magnitudes as the gains due to mortgage sales from 2001-2006.
    Keywords: Financial crises ; Financial crises - United States
    Date: 2010
  7. By: Ouarda Merrouche; Enrica Detragiache; Asli Demirgüç-Kunt
    Abstract: Using a multi-country panel of banks, we study whether better capitalized banks experienced higher stock returns during the financial crisis. We differentiate among various types of capital ratios: the Basel risk-adjusted ratio; the leverage ratio; the Tier I and Tier II ratios; and the tangible equity ratio. We find several results: (i) before the crisis, differences in capital did not have much impact on stock returns; (ii) during the crisis, a stronger capital position was associated with better stock market performance, most markedly for larger banks; (iii) the relationship between stock returns and capital is stronger when capital is measured by the leverage ratio rather than the risk-adjusted capital ratio; (iv) higher quality forms of capital, such as Tier 1 capital and tangible common equity, were more relevant.
    Keywords: Bank regulations , Banks , Capital , Cross country analysis , Economic models , Financial crisis , Global Financial Crisis 2008-2009 , Risk management , Stock markets ,
    Date: 2010–12–10
  8. By: H. Evren Damar; Césaire A. Meh; Yaz Terajima
    Abstract: Some evidence points to the procyclicality of leverage among financial institutions leading to aggregate volatility. This procyclicality occurs when financial institutions finance their assets with non-equity funding (i.e., debt financed asset expansions). Wholesale funding is an important source of market-based funding that allows some institutions to quickly adjust their leverage. As such, financial institutions that rely on wholesale funding are expected to have higher degrees of leverage procyclicality. Using high frequency balance sheet data for the universe of banks, this study tries to identify (i) if such a positive link exists between the assets and leverage in Canada, (ii) how wholesale funding plays a role for this link, and (iii) market and macroeconomic factors associated with this link. The findings of the empirical analysis suggest that a strong positive link exists between asset growth and leverage growth, and the use to wholesale funding is an important determinant of this relationship. Furthermore, liquidity of several short-term funding markets matters for procyclicality of leverage.
    Keywords: Financial stability; Financial system regulation and policies; Recent economic and financial developments
    JEL: G21 G28
    Date: 2010
  9. By: Ed Nosal; Randall Wright
    Abstract: The 2010 Summer Workshop on Money, Banking, Payments and Finance met at the Federal Reserve Bank of Chicago this summer, for the second year. The following document summarizes and ties together the papers presented.
    Keywords: Payment systems
    Date: 2010
  10. By: Ed Nosal; Christopher Waller; Randall Wright
    Abstract: We motivate and provide an overview to New Monetarist Economics. We then briefly describe the individual contributions to the Macroeconomics Dynamics special issues on money, credit and liquidity.
    Keywords: Macroeconomics - Econometric models
    Date: 2010
  11. By: Arantxa Jarque; Edward S. Prescott
    Abstract: We present a sequence of two-period models of incentive-based compensation in order to understand how the properties of optimal compensation structures vary with changes in the model environment. Each model corresponds to a different occupation within a bank, such as credit line managers, loan originators, or traders. All models share a common trait: the effects of hidden actions are persistent, and hence are revealed over time. We characterize the corresponding optimal contracts that are consistent with prudent risk taking. We compare the contracts by ranking them according to the average wage, the proportion of deferred compensation, and the structure and importance of variable pay (bonuses). We also compare these characteristics of the models with persistence with those of a standard repeated moral hazard. We find that small changes in the structure of asymmetric information have important implications for the characteristics of optimal pay, and that persistence does not necessarily imply a higher proportion of deferred pay.
    Keywords: Financial institutions ; Financial markets ; Labor market ; Moral hazard
    Date: 2010
  12. By: Paul Hamalainen (Essex Business School - University of Essex); Adrian Pop (LEMNA - Laboratoire d'économie et de management de Nantes Atlantique - Université de Nantes : EA4272); Max Hall (Department of Economics - Loughborough University); Barry Howcroft (The Business School - Loughborough University)
    Abstract: The academic literature has regularly argued that market discipline can support regulatory authority mechanisms in ensuring banking sector stability. This includes, amongst other things, using forward-looking market prices to identify those credit institutions that are most at risk of failure. The paper's key aim is to analyse whether market investors signalled potential problems at Northern Rock in advance of the bank announcing that it had negotiated emergency lending facilities at the Bank of England in September 2007. A further aim of the paper is to examine the signalling qualities of four financial market instruments (credit default swap spreads, subordinated debt spreads, implied volatility from options prices and equity measures of bank risk) so as to explore both the relative and individual qualities of each. Therefore, the paper's findings contribute to the market discipline literature on using market data to identify bank risk-taking and enhancing supervisory monitoring. Our analysis suggests that private market participants did signal impending financial problems at Northern Rock. These findings lend some empirical support to proposals for the supervisory authorities to use market information more extensively to improve the identification of troubled banks. The paper identifies equities as providing the timeliest and clearest signals of bank condition, whilst structural factors appear to hamper the signalling qualities of subordinated debt spreads and credit default swap spreads. The paper also introduces idiosyncratic implied volatility as a potentially useful early warning metric for supervisory authorities to observe.
    Keywords: Bank regulation ; bank failures ; market discipline ; early-warning signals
    Date: 2010–12–17
  13. By: Itai Agur; Maria Demertzis
    Abstract: This paper shows that a rate hike has countervailing effects on banks’ risk appetite. It reduces risk when the debt burden of the banking sector is modest. We model a regulator whose trade-off between bank risk and credit supply is derived from a welfare function. We show that the regulator cannot optimally neutralize the welfare effects that the interest rate has through bank incentives. The larger the correlation between banks’ projects, the more important the role for monetary policy. In a dynamic setting, not internalizing bank risk leads a monetary authority to keep rates low for too long after a negative shock.
    Keywords: Monetary policy; Financial stability; Maturity mismatch; Leverage; Regulation
    JEL: E43 E52 E61 G21 G28
    Date: 2010–12
  14. By: Jokivuolle, Esa (Bank of Finland Research); Kiema, Ilkka (University of Helsinki); Vesala, Timo (Danske Bank A/S, Finland)
    Abstract: We show how banks’ excessive risk-taking, stemming from informational asymmetries in loan markets, can lead to an excessive output loss when a recession starts. Risk-based capital requirements can alleviate the output loss by reducing excessive risk-taking in ‘normal’ times. Model simulations suggest that the differentiation of risk-weights in the Basel framework might be further increased in order to take full advantage of the allocational effects of capital requirements. Our analysis also provides a new rationale for the countercyclical elements of capital requirements.
    Keywords: bank regulation; Basel III; capital requirements; credit risk; crises; procyclicality
    JEL: D41 D82 G14 G21 G28
    Date: 2010–12–01
  15. By: Coffinet, J.; Lin, S.
    Abstract: We build a stress testing framework to evaluate the sensitivity of banks’ profitability to plausible but severe adverse macroeconomic shocks. Specifically, we test the resilience of French banks using supervisory data over the period 1993-2009. First, we identify the macroeconomic and financial variables (GDP growth, interest rate maturity spread, stock market’s volatility) and bank-specific variables (size, capital ratio, ratio of non interest income to assets) that significantly affect French banks’ profitability. Second, our macroeconomic stress testing exercises based on a simulation of macroeconomic variables show that French banks’ profitability is resilient to major adverse macroeconomic scenarios. Specifically, our findings highlight that even severe recessions would leave the French banking system profitable.
    Keywords: bank profitability, dynamic panel estimation, stress test.
    JEL: C23 G21 L2
    Date: 2010
  16. By: Böve, Rolf; Düllmann, Klaus; Pfingsten, Andreas
    Abstract: Lending specialization on certain industry sectors can have opposing effects on monitoring (including screening) abilities and on the sectoral concentration risk of a credit portfolio. In this paper, we examine in the first part if monitoring abilities of German cooperative banks and savings banks increase with their specialization on certain industry sectors. We observe that sectoral specialization generally entails better monitoring quality, particularly in the case of the cooperative banks. In the second part we measure the overall effect of better monitoring and the associated higher sectoral credit concentrations on the credit risk of the portfolio. Our empirical results suggest that specialization benefits overcompensate the impact of higher credit concentrations in the case of the cooperative banks. For savings banks, the results on the net effect depend on how specialization is measured. If specialization is gauged by Hirschman Herfindahl indices, the net effect is an increase of portfolio risk due to the higher sectoral concentration. If specialization is instead measured by distance measures, portfolio risk decreases as the impact of better monitoring abilities prevails. --
    Keywords: bank lending,loan portfolio,diversification,expected loss,savings banks,cooperative banks,concentration,economic capital,credit risk
    JEL: G11 G21
    Date: 2010
  17. By: Georgios E. Chortareas; Claudia Girardone; Jesus Gustavo Garza-Garcia
    Abstract: The wave of consolidation and the rapid increase in market concentration that took place in most Latin American countries has generated concerns about the rise in banks' market power and its potential effects on consumers. This paper advances the existing literature by testing the market power (Structure-Conduct-Performance and Relative Market Power) and efficient structure (X- and scale efficiency) hypotheses for a sample of over 2,500 bank observations in nine Latin American countries over 1997-2005. We use the Data Envelopment Analysis technique to obtain reliable efficiency measures. We produce evidence supporting the efficient structure hypotheses. Finally, capital ratios and bank size seem to be among the most important factors in explaining profits for these Latin American banks.
    Keywords: Structure-Conduct-Performance, Efficient Structure, Banking System in Some Latin American Countries, Data Envelopment Analysis (DEA)
    JEL: G21 D24
    Date: 2010–12
  18. By: Li L. Ong; Rodolfo Maino; Nombulelo Duma
    Abstract: Stress testing has become the risk management tool du jour in the wake of the global financial crisis. In countries where the information reported by financial institutions is considered to be of sufficiently good quality, and supervisory and regulatory standards are high, stress tests can be of significant value. In contrast, the proliferation of stress testing in underdeveloped financial systems with weak oversight regimes is fraught with uncertainties, as it is unclear what the results actually represent and how they could be usefully applied. In this paper, problems associated with stress tests using weak data are examined. We offer a potentially more useful alternative, the "breaking point" method, which also requires close coordination with on-site supervision and complemented by other supervisory tools and qualitative information. Excel spreadsheet templates of the stress tests presented in this paper are provided.
    Keywords: Bank supervision , Banks , Data quality assessment framework , Financial institutions , Risk management ,
    Date: 2010–12–08
  19. By: Daniel Fricke
    Abstract: This paper employs an Extreme Value Theory framework to investigate the existence of contagion between European and US banks. The fact that many regulators have no detailed data sets about interbank cross-exposures raises the necessity of finding market-based indicators in order to analyze the effects of crises and to quantify the risk of contagion. The Distance-to-default (DD) measure is being employed as an indicator of banks' soundness. Focusing on the negative tail of the daily percentage changes of the DD, a country-specific indicator variable labeled "Coexceedances" is built measuring the number of banks simultaneously experiencing a large shock on a given day. Based on a multinomial logit model, for each country the probability of observing several banks in the tail is estimated. Controlling for common factors and including foreign countries' lagged coexceedances allows to interpret significant coefficients of foreign lagged coexceedances as contagion. The main finding is that there is significant bi-lateral contagion between European and US banks. Furthermore the existence of contagion between European banks is verified by the underlying data set
    Keywords: Banking, Contagion, Distance-to-default, Multinomial logit
    JEL: F36 G15 G21
    Date: 2010–12
  20. By: Nicola Cetorelli; Pietro Peretto
    Abstract: In this paper we show that bank competition has an intrinsically ambiguous impact on capital accumulation. We further show that it is also responsible for the emergence of development traps in economies that otherwise would be characterized by unique equilibria. These results explain the conicting evidence emerging from the recent empirical studies of the e¤ects of bank competition on economic growth. We obtain them developing a dynamic, general equilibrium model of capital accumulation where banks operate in a Cournot oligopoly. More banks lead to a higher quantity of credit available to entrepreneurs, but also to diminished incentives to o¤er relationship services which contribute to improve the likelihood of success of entrepreneursprojects. This tension between credit quantity and credit quality is what leads to the ambiguous e¤ect on capital accumulation, We also show that conditioning on one key parameter resolves the theoretical ambiguity: in economies where intrinsic market uncertainty is high (low), less (more) competition leads to higher capital accumulation.
    JEL: G1 G2 L1 L2 O1 O4
    Date: 2010
  21. By: Jérôme Coffinet (Banque de France - Banque de France); Adrian Pop (LEMNA - Laboratoire d'économie et de management de Nantes Atlantique - Université de Nantes : EA4272); Muriel Tiesset (Banque de France - Banque de France)
    Abstract: The current financial crisis offers a unique opportunity to investigate the leading properties of market indicators in a stressed environment and their usefulness from a banking supervision perspective. One pool of relevant information that has been little explored in the empirical literature is the market for bank's exchange-traded option contracts. In this paper, we first extract implied volatility indicators from the prices of the most actively traded option contracts on financial firms' equity. We then examine empirically their ability to predict financial distress by applying survival analysis techniques to a sample of large US financial firms. We find that market indicators extracted from option prices significantly explain the survival time of troubled financial firms and do a better job in predicting financial distress than other time-varying covariates typically included in bank failure models. Overall, both accounting information and option prices contain useful information of subsequent financial problems and, more importantly, the combination produces good forecasts in a high-stress financial world, full of doubts and uncertainties.
    Keywords: Financial distress ; Financial system oversight ; Market discipline ; Options ; Implied volatility ; Survival analysis
    Date: 2010–10–01
  22. By: Alexey Levkov
    Abstract: This paper proposes a novel explanation for the decline in unions in the United States since the late 1970s: state-by-state removal of geographical restrictions on branching of banks. Bank branch deregulation reduces union membership in the non-banking sectors by intensifying entry of new firms, especially in sectors with high dependence on external finance. New firm entry, in turn, is associated with a reduction in union wage premium, and subsequently leads to adverse union voting. I provide empirical evidence for these channels using repeated cross-sectional and panel data of U.S. workers and union representation election outcomes.
    Keywords: Branch banks ; Labor unions
    Date: 2010
  23. By: Erlend Nier; Ouarda Merrouche
    Abstract: This paper investigates empirically the drivers of financial imbalances ahead of the global financial crisis. Three factors may have contributed to the build-up of financial imbalances: (i) rising global imbalances (capital flows), (ii) monetary policy that might have been too loose, (iii) inadequate supervision and regulation. Panel data regressions are performed for OECD countries from 1999 to 2007, so as to shed light on the relative importance of these factors, as well as the extent to which these factors might have interacted in fuelling the build-up. We find that the build-up of financial imbalances was driven by capital inflows and an associated compression of the spread between long and short rates. The effect of capital inflows on the build-up is amplified where the supervisory and regulatory environment was relatively weak. We find that, by contrast, differences in monetary policy cannot account for differences across countries in the build-up of financial imbalances ahead of the crisis.
    Keywords: Balance of trade , Bank credit , Bank regulations , Bank supervision , Capital flows , Capital inflows , Cross country analysis , Current account balances , Financial crisis , Financial sector , Global Financial Crisis 2008-2009 , Monetary policy ,
    Date: 2010–12–20
  24. By: Sumit Agarwal; Sujit Chakravorti; Anna Lunn
    Abstract: Using a unique administrative level dataset from a large and diverse U.S. financial institution, we test the impact of rewards on credit card spending and debt. Specifically, we study the impact of cash-back rewards on individuals before and during their enrollment in the program. We find that with an average cash-back reward of $25, spending and debt increases by $79 and $191 a month, respectively during the first quarter. Furthermore, we find that cardholders who do not use their card prior to the cash-back program increase their spending and debt more than cardholders with debt prior to the cash-back program. In addition, we find that 11 percent of cardholders that did not use their cards in the previous 3 months prior to the cash-back program spent at least $50 in the first month of the program. Finally, we find heterogeneous responses by demographic and credit constraint characteristics.
    Keywords: Credit cards ; Consumption (Economics)
    Date: 2010
  25. By: Daniel R. Sanches
    Abstract: The author studies the terms of credit in a competitive market in which sellers (lenders) are willing to repeatedly finance the purchases of buyers (borrowers) by engaging in a credit relationship. The key frictions are: (i) the lender is unable to observe the borrower's ability to repay a loan; (ii) the borrower cannot commit to any long-term contract; (iii) it is costly for the lender to contact a borrower and to walk away from a contract; and (iv) transactions within each credit relationship are not publicly observable. The lender's optimal contract has two key properties: delayed settlement and debt forgiveness. Asymmetric information gives rise to the property of delayed settlement, which is a contingency in which the lender allows the borrower to defer the repayment of his loan in exchange for more favorable terms of credit within the relationship. This property, together with the borrowers' lack of commitment, gives rise to debt forgiveness. When the borrower's participation constraint binds, the lender needs to "forgive" part of the borrower's debt to keep him in the relationship. Finally, the author studies the impact of the changes in the initial cost of lending on the terms of credit.
    Keywords: Credit ; Contracts
    Date: 2010
  26. By: Fabio Ghironi (Boston College); Viktors Stebunovs (Board of Governors of the Federal Reserve System)
    Abstract: This paper studies the domestic and international effects of the transition to an interstate banking system implemented by the U.S. since the late 1970s in a dynamic, stochastic, general equilibrium model with endogenous producer entry. Interstate banking reduces the degree of local monopoly power of financial intermediaries. We show that the an economy that implements this form of deregulation experiences increased producer entry, real exchange rate appreciation, and a current account deficit. The rest of the world experiences a long-run increase in GDP and consumption. Less monopoly power in financial intermediation results in less volatile business creation, reduced markup countercyclicality, and weaker substitution effects in labor supply in response to productivity shocks. Bank market integration thus contributes to a moderation of firm-level and aggregate output volatility. In turn, trade and financial ties between the two countries in our model allow also the foreign economy to enjoy lower GDP volatility in most scenarios we consider. The results of the model are consistent with features of the U.S. and international business cycle after the U.S. began its transition to interstate banking.
    Keywords: Business cycle volatility; Current account; Deregulation; Interstate banking; Producer entry; Real exchange rate
    JEL: E32 F32 F41 G21
    Date: 2010–12–17
  27. By: Gurnain Kaur Pasricha
    Abstract: This paper finds a strong empirical link between domestic banking sector competitiveness and de facto international integration. De-facto international integration is measured through a new index of financial integration, which measures, for deviations from covered interest parity, the size of no-arbitrage bands and the speed of arbitrage outside the no-arbitrage band. The strong empirical link between de-facto integration and domestic financial sector competitiveness allows us to reinterpret the recent literature on the benefits and costs of international financial integration. This literature has emphasized the development of domestic markets as a precondition to benefiting from international integration. This paper offers an alternative view. Lack of competition in domestic financial systems may prevent countries from reaping the benefits of international integration simply because it prevents them from being integrated in a meaningful way – that of price equalization. This finding suggests that financial sector consolidation of the type recently witnessed in the crisis environment may have negative consequences for countries' de-facto international financial integration. Another important result of the paper is that the level of de-jure controls have a limited association with de-facto integration, particularly for developing economies.
    Keywords: Econometric and statistical methods; Financial markets; International topics
    JEL: F32 G15 G21
    Date: 2010
  28. By: Masaaki Fujii (Graduate School of Economics, University of Tokyo); Akihiko Takahashi (Faculty of Economics, University of Tokyo)
    Abstract: The importance of collateralization through the change of funding cost is now well recognized among practitioners. In this article, we have extended the previous studies of collateralized derivative pricing to more generic situation, that is asymmetric and imperfect collateralization as well as the associated CVA. We have presented approximate expressions for various cases using Gateaux derivative which allow straightforward numerical analysis. Numerical examples for CCS (cross currency swap) and IRS (interest rate swap) with asymmetric collateralization were also provided. They clearly show the practical relevance of sophisticated collateral management for financial firms. We have also discussed some generic implications of asymmetric collateralization for netting and resolution of information.
    Date: 2010–12
  29. By: Sermin Gungor; Richard Luger
    Abstract: We develop a finite-sample procedure to test the beta-pricing representation of linear factor pricing models that is applicable even if the number of test assets is greater than the length of the time series. Our distribution-free framework leaves open the possibility of unknown forms of non-normalities, heteroskedasticity, time-varying correlations, and even outliers in the asset returns. The power of the proposed test procedure increases as the time-series lengthens and/or the cross-section becomes larger. This stands in sharp contrast to the usual tests that lose power or may not even be computable if the cross-section is too large. Finally, we revisit the CAPM and the Fama-French three factor model. Our results strongly support the mean-variance efficiency of the market portfolio.
    Keywords: Econometric and statistical methods; Financial markets
    JEL: C12 C14 C33 G11 G12
    Date: 2010
  30. By: Koen Rossel-Cambier
    Abstract: Worldwide, microcredit organizations are gradually transforming to multi-servicing organizations offering additional financial services. This paper examines whether combining microcredit with insurance and/or savings enhances their economic performance by increasing their efficiency, productivity, sustainability or portfolio quality indicators. Using cross-sectional data from 250 microfinance institutions (MFIs) from Latin America and the Caribbean, it compares MFIs offering credit only with those combining credit with respectively savings and insurance. By using multiple regression analysis, this research finds positive effects of both savings and insurance on the efficiency and productivity of MFIs. Still, this research didn't find significant results with relation to the sustainability and portfolio quality of MFIs. Overall, taking into account various risks, combined microfinance can enhance organisational efficiency and productivity because of the different economies of scope which can be achieved. This reveals especially for large and mature MFIs which already exhibit readiness in terms of human, financial, and organizational resources to deal with the complexity of delivering multiple financial services.
    Keywords: performance; microfinance; combined microfinance; microinsurance; microcredit; microsavings; Latin America and the Caribbean
    JEL: G21 G22 L31 O54
    Date: 2010–12
  31. By: Charlotte Østergaard (Norwegian School of Management and Norges Bank (Central Bank of Norway)); Amir Sasson (Norwegian School of Management); Bent E. Sørensen (University of Houston and the CEPR)
    Abstract: We study how non-listed firms trade off financial, real, and distributive uses of cash. We show that firms' marginal value of cash (MVC) affects the mix of external and internal finance used to absorb fluctuations in cash flows; in particular, high-MVC firms employ substantially more external finance on the margin. Linking firms to their main bank, we find that shocks to bank finance affect corporate trade-offs and have real effects in high-MVC firms, making investment more sensitive to firm cash flows. Our analysis suggests that external finance constraints affect the real economy via firms' marginal value of cash.
    Keywords: Cash Management, Cash Holdings, Cost of External Finance, Non_listed Firms, Bank Lending Channel
    Date: 2010–12–16

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