New Economics Papers
on Banking
Issue of 2013‒03‒09
seventeen papers chosen by
Christian Calmès, Université du Québec en Outaouais

  1. Does excessive liquidity creation trigger bank failures? By Fungácová, Zuzana; Turk Ariss, Rima; Weill, Laurent
  2. Financial Crises: Explanations, Types and Implications By Stijn Claessens; M. Ayhan Kose
  3. Understanding Financial Crises: Causes, Consequences, and Policy Responses By Stijn Claessens; M. Ayhan Kose; Luc Laeven; Fabián Valencia
  4. The change in banks' product mix, diversification and performance: An application of multivariate GARCH to Canadian data By Christian Calmès; Raymond Théoret
  5. Tailoring Bank Capital Regulation for Tail Risk By Nataliya Klimenko
  6. Money Laundering as a Financial Sector Crime. A New Approach to Measurement, with an Application to Italy By Guerino Ardizzi; Carmelo Petraglia; Massimiliano Piacenza; Friedrich Schneider; Gilberto Turati
  7. Understanding Global Liquidity By Sandra Eickmeier; Leonardo Gambacorta; Boris Hofmann
  8. Financial services regulation in the wake of the crisis: The Capital Requirements Directive IV and the Capital Requirements Regulation By Casselmann, Farina
  9. Equilibrium Credit: The Reference Point for Macroprudential Supervisors By Buncic, Daniel; Martin Melecky
  10. How Likely is Contagion in Financial Networks? By H Peyton Young; Paul Glasserman
  11. Credit Rating Industry: a Helicopter Tour of Stylized Facts and Recent Theories By Jeon, Doh-Shin; Lovo, Stefano
  12. Credit Derivative Evaluation and CVA under the Benchmark Approach By Jan Baldeaux; Eckhard Platen
  13. Ensemble predictions of recovery rates By Joao A. Bastos
  14. Credit rating agencies in emerging democracies : Guardians of fiscal discipline ? By Hanusch, Marek; Vaaler, Paul M.
  15. Market Structure and Borrower Welfare in Micro Finance By Ghatak, Maitreesh; de Quidt, Jonathan; Fetzer, Thiemo
  16. Agricultural Credit Market Institutions: A Comparison of Selected European Countries By Hedman Jansson, Kristina; Huisman Chelsey, Jo; Lagerkvist, Carl Johan; Rabinowicz, Ewa
  17. Working Paper 168 - Competition and Market Structure in the Zambian Banking Sector By AfDB

  1. By: Fungácová, Zuzana (BOFIT); Turk Ariss, Rima (BOFIT); Weill, Laurent (BOFIT)
    Abstract: This paper introduces the “Excessive Liquidity Creation Hypothesis,” whereby a rise in a bank’s core liquidity creation activity increases its probability of failure. Russia experienced many bank failures over the past decade, making it an ideal natural field experiment for testing this hypothesis. Using Berger and Bouwman’s (2009) liquidity creation measures, we find that excessive liquidity creation significantly increased the probability of bank failure during our observation period (2000-2007). This finding survives multiple robustness checks. Our results further suggest that regulatory authorities can mitigate systemic distress and reduce the costs to society from bank failures through early identification and enhanced monitoring of excessive liquidity creators.
    Keywords: liquidity creation; bank failures;
    JEL: G21 G28
    Date: 2013–01–21
  2. By: Stijn Claessens; M. Ayhan Kose
    Abstract: This paper reviews the literature on financial crises focusing on three specific aspects. First, what are the main factors explaining financial crises? Since many theories on the sources of financial crises highlight the importance of sharp fluctuations in asset and credit markets, the paper briefly reviews theoretical and empirical studies on developments in these markets around financial crises. Second, what are the major types of financial crises? The paper focuses on the main theoretical and empirical explanations of four types of financial crises?currency crises, sudden stops, debt crises, and banking crises?and presents a survey of the literature that attempts to identify these episodes. Third, what are the real and financial sector implications of crises? The paper briefly reviews the short- and medium-run implications of crises for the real economy and financial sector. It concludes with a summary of the main lessons from the literature and future research directions.
    Keywords: Sudden stops, debt crises, banking crises, currency crises, defaults, policy implications, financial restructuring, asset booms, credit booms, crises prediction
    JEL: E32 F44 G01 E5 E6 H12
    Date: 2013–02
  3. By: Stijn Claessens; M. Ayhan Kose; Luc Laeven; Fabián Valencia
    Abstract: The global financial crisis of 2007-09 has led to an intensive research program analyzing a wide range of issues related to financial crises. This paper presents a summary of a forthcoming book, Financial Crises: Causes, Consequences, and Policy Responses, that includes 19 contributions examining these issues and distilling policy lessons. The book covers a wide range of crises, including banking, balance-of-payments, and sovereign debt crises. It reviews the typical patterns prior to crises, considers lessons on their antecedents, and analyzes their evolution and aftermath. It also provides valuable policy lessons on how to prevent, contain and manage financial crises.
    Keywords: Global financial crisis, sudden stops, debt crises, banking crises, currency crises, defaults, restructuring, welfare cost, asset price busts, credit busts, prediction of crises
    JEL: E32 F44 G01 E5 E6 H12
    Date: 2013–02
  4. By: Christian Calmès (Chaire d'information financière et organisationnelle ESG-UQAM, Laboratory for Research in Statistics and Probability, Université du Québec (Outaouais)); Raymond Théoret (Chaire d'information financière et organisationnelle ESG-UQAM, Université du Québec (Montréal), Université du Québec (Outaouais))
    Abstract: Data suggest a change in banks’ performance attributable to a greater involvement in non-traditional activities. Indeed, market-oriented banking increases banks’ accounting returns at the cost of a higher volatility in financial results. The motivation of this paper is to study how bank product mix impacts diversification and performance. Thanks to our data and methodology we are able to shed new light on the apparently contradictory results found in the literature regarding the benefits to diversify in market-based banking. Some keys conditional volatilities reveal these benefits may in fact vary both over the business cycles and through time. Using a new framework based on a multivariate GARCH procedure and a modified Hausman test, our main findings suggest that most components of non-interest income actually provide non-negligible diversification benefits with respect to traditional banks’ business lines. In normal times, diversification even works for the components most related to market-oriented banking, i.e., trading income and capital markets fees. Not so surprisingly however, during crisis episodes these diversification benefits seem to vanish for most of the components, except for insurance and securitization, which act as buffers. Consistent with the literature, we also find that, despite the evolution of the banking business model, fees related to banks’ traditional activities – deposit, credit card and loan fees – remain the most stable and profitable sources of income.
    Keywords: Market-oriented banking; Product mix; Multivariate GARCH; Structural break; Endogeneity.
    JEL: C32 G20 G21
    Date: 2013–01–01
  5. By: Nataliya Klimenko (Aix-Marseille University (Aix-Marseille School of Economics), CNRS & EHESS)
    Abstract: The experience of the 2007-09 financial crisis has showed that the bank capital regulation in place was inadequate to deal with "manufacturing" tail risk in the financial sector. This paper proposes an incentive-based design of bank capital regulation aimed at efficiently dealing with tail risk engendered by bank top managers. It has two specific features: (i) first, it incorporates information on the optimal incentive contract between bank shareholders and bank managers, thereby dealing with the internal agency problem; (ii) second, it relies on the mechanism of mandatory recapitalization to ensure this contract is adopted by bank shareholders.
    Keywords: Capital requirements, tail risk, recapitalization, incentive compensation, moral hazard.
    JEL: G21 G28 G32 G35
    Date: 2013–02
  6. By: Guerino Ardizzi (Market and Payment Systems Oversight Department, Bank of Italy, Italy); Carmelo Petraglia (Department of Mathematics, Computer Science and Economics, University of Basilicata, Italy); Massimiliano Piacenza (Department of Economics and Statistics (Dipartimento di Scienze Economico-Sociali e Matematico-Statistiche), University of Torino, Italy); Friedrich Schneider (Department of Economics, Johannes Kepler University of Linz, Austria); Gilberto Turati (Department of Economics and Statistics (Dipartimento di Scienze Economico-Sociali e Matematico-Statistiche), University of Torino, Italy)
    Abstract: Anti–money laundering regulations have been centred on the “Know-Your-Customer” rule so far, overlooking the fact that criminal proceedings that need to be laundered are usually represented by cash. This is the first study aimed at providing an answer to the question of how much of cash deposited via an official financial institution can be traced back to criminal activities. The paper develops a new approach to measure money laundering and then proposes an application to Italy, a country where cash is still widely used in transactions and criminal activities generate significant proceeds to be laundered. In particular, we define a model of cash in-flows on current accounts and proxy money laundering with two indicators for the diffusion of criminal activities related to both illegal trafficking and extortion, controlling also for structural (legal) motivations to deposit cash, as well as the need to conceal proceeds from tax evasion. Using a panel of 91 Italian provinces observed over the period 2005-2008, we find that the amount of cash laundered is sizable, around 7% of GDP, 3/4 of which is due to illegal trafficking, while 1/4 is attributable to extortions. Furthermore, the incidence of “dirty money” coming from illegal trafficking is higher in the Centre-North than in the South, while the inverse is true for extortions. Results are useful to discuss policy initiatives to combat money laundering.
    Keywords: Money laundering, Shadow economy, Banking regulation
    JEL: K42 H26 G28
    Date: 2013–03
  7. By: Sandra Eickmeier; Leonardo Gambacorta; Boris Hofmann
    Abstract: We explore the concept of global liquidity based on a factor model estimated using a large set of financial and macroeconomic variables from 24 advanced and emerging market economies. We measure global liquidity conditions based on the common global factors in the dynamics of liquidity indicators. By imposing theoretically motivated sign restrictions on factor loadings, we achieve a structural identification of the factors. The results suggest that global liquidity conditions are largely driven by three common factors and can therefore not be summarised by a single indicator. These three factors can be identified as global monetary policy, global credit supply and global credit demand.
    Keywords: global liquidity, monetary policy, credit supply, credit demand, international business cycles, factor model, sign restrictions
    Date: 2013–02
  8. By: Casselmann, Farina
    Abstract: This paper analyzes the Capital Requirements Directive IV and the Capital Requirements Regulation, a new legislative package proposed by the European Commission in July 2011 which aims to strengthen the regulation of the banking sector and amend the European Union's rules on capital requirements for banks and investment firms. It is argued that the CRD IV package makes a great contribution towards creating a sounder and safer financial system, however, several aspects are insufficiently addressed and/or not comprehensive enough to produce the anticipated results. It is found that the main fallacies of the CRD IV proposal lay in increased risk-taking, procyclicality, deficient implementation, overreliance on credit rating agencies, and risk weightings. Moreover, the proposal does not touch upon the issues of the shadow banking system, diversification, the problem of 'too-big-to-fail' or the 'Volcker Rule'. It is, hence, concluded that the CRD IV proposal is not ambitious enough to address essential issues of systemic risk, regulatory arbitrage, or the fragility of the financial system. --
    JEL: E25 E44 F4
    Date: 2013
  9. By: Buncic, Daniel; Martin Melecky
    Abstract: Equilibrium credit is an important concept as it helps identify excessive credit provision. This paper proposes a two-stage approach to determine equilibrium credit. The two stages allow us to study changes in the demand for credit due to varying levels of economic, financial and institutional development of a country. Using a panel of high- and middle-income countries over the period 1980-2010, we provide empirical evidence that the credit-to-GDP ratio is inappropriate to measure equilibrium credit. The reason for this is that such an approach ignores heterogeneity in the parameters that determine equilibrium credit across countries due to different stages of economic development. The main drivers of this heterogeneity are financial depth, access to financial services, use of capital markets, efficiency and funding of domestic banks, central bank independence, the degree of supervisory integration, and experience of a financial crisis. Also, countries in Europe and Central Asia show a slower adjustment of credit to its long-run equilibrium compared to other regions of the world.
    Keywords: Equilibrium Credit, Macroprudential Supervision, Demand for Credit, Time-Series Panel Data, High- and Middle Income Countries
    JEL: G28 E58 G21
    Date: 2013–01
  10. By: H Peyton Young; Paul Glasserman
    Abstract: Interconnections among financial institutions create potential channels for contagion and amplification of shocks to the financial system.  We propose precise definitions of these concepts and analyze their magnitude.  Contagion occurs when a shock to the assets of a single firm causes other firms to default through the network of obligations; amplification occurs when losses among defaulting nodes keep escalating due to their indebtedness to one another.  Contagion is weak if the probability of default through contagion is no greater than the probability of default through independent direct shocks to the defaulting nodes.  We derive a general formula which shows that, for a wide variety of shock distributions, contagion is weak unless the triggering node is large and/or highly leveraged compared to the nodes it topples through contagion.  We also estimate how much the interconnections between nodes increase total losses beyond the level that would be incurred without interconnections.  A distinguishing feature of our approach is that the results do not depend on the specific topology: they hold for any financial network with a given distribution of bank sizes and leverage levels.  We apply the framework to European Banking Authority data and show that both the probability of contagion and the expected increase in losses are small under a wide variety of shock distributions.  Our conclusion is that the direct transmission of shocks through payment obligations does not have a major effect on defaults and losses; other mechanisms such as loss of confidence and declines in credit quality are more llikely sources of contagion.
    Keywords: Systemic risk, contagion, financial network
    JEL: D85 G21
    Date: 2013–02–05
  11. By: Jeon, Doh-Shin (TSE); Lovo, Stefano (HEC)
    Abstract: The recent subprime crisis and the ongoing Euro zone crisis have generated an enormous interest in the credit rating industry not only among economists but also among average citizens. As a consequence, we have seen an explosion of the economic literature on the industry. The objective of this survey is to introduce readers to the key stylized facts of the credit rating industry and to the recent theoretical economic literature on this industry.
    Keywords: Credit Rating Agencies, Reputation, Financial Regulations, Conflicts of Interest, Certification
    JEL: D43 D82 G24 L13
    Date: 2013–02–07
  12. By: Jan Baldeaux; Eckhard Platen (Finance Discipline Group, UTS Business School, University of Technology, Sydney)
    Abstract: In this paper, we discuss how to model credit risk under the benchmark approach. Firstly we introduce an affine credit risk model. We then show how to price credit default swaps (CDSs) and introduce credit valuation adjustment (CVA) as an extension of CDSs. In particular, our model can capture right-way - and wrong-way exposure. This means, we capture the dependence structure of the default event and the value of the transaction under consideration. For simple contracts, we provide closed-form solutions. However, due to the fact that we allow for a dependence between the default event and the value of the transaction, closed-form solutions are difficult to obtain in general. Hence we conclude this paper with a reduced form model, which is more tractable.
    Keywords: Credit derivatives; credit valuation adjustment; benchmark approach; affine processes; real world pricing
    JEL: G10 C10 C15
    Date: 2013–02–01
  13. By: Joao A. Bastos (CEMAPRE, School of Economics and Management (ISEG), Technical University of Lisbon)
    Abstract: In many domains, the combined opinion of a committee of experts provides better decisions than the judgment of a single expert. This paper shows how to implement a successful ensemble strategy for predicting recovery rates on defaulted debts. Using data from Moody's Ultimate Recovery Database, it is shown that committees of models derived from the same regression method present better forecasts of recovery rates than a single model. More accurate predictions are observed whether we forecast bond or loan recoveries, and across the entire range of actual recovery values.
    Keywords: Recovery rate, Loss given default, Forecasting, Ensemble learning, Credit risk
    JEL: G17 G21
    Date: 2013–03
  14. By: Hanusch, Marek; Vaaler, Paul M.
    Abstract: Credit rating agencies have drawn criticism for failing to anticipate and deter root causes of the 2008-2009 financial crisis in the United States. However, this paper presents evidence that credit rating agencies regularly anticipate and deter governments in emerging democracies from opportunistic borrowing and potential financial crises related to elections and the political budget cycle behavior they encourage. The paper considers a sample of 18 such countries holding 32 presidential elections from 1989 to 2004. The analysis shows that credit rating agencies induced greater fiscal discipline during election periods when governments had incentives to borrow opportunistically for short-term electoral gain. Countries with higher credit rating agency sovereign ratings borrowed less than lower-rated countries in election periods, but borrowed more in non-election periods. Credit rating agencies promoted fiscal discipline during increasingly frequent election periods in emerging democracies.
    Keywords: Debt Markets,Parliamentary Government,Bankruptcy and Resolution of Financial Distress,Emerging Markets
    Date: 2013–03–01
  15. By: Ghatak, Maitreesh (London School of Economics); de Quidt, Jonathan (London School of Economics); Fetzer, Thiemo (London School of Economics)
    Abstract: Motivated by recent controversies surrounding the role of commercial lenders in micro nance, we analyze borrower welfare under different market structures, considering a benevolent non-profit lender, a for-prfi t monopolist, and a competitive credit market. To understand the magnitude of the effects analyzed, we simulate the model with parameters estimated from the MIX Market database. Our results suggest that market power can have severe implications for borrower welfare, while despite possible information frictions competition typically delivers similar borrower welfare to non-pro t lending. In addition, for-profit lenders are less likely to use joint liability than non-profits.
    Keywords: micronance; market power; for-profit; social capital
    Date: 2013
  16. By: Hedman Jansson, Kristina; Huisman Chelsey, Jo; Lagerkvist, Carl Johan; Rabinowicz, Ewa
    Abstract: In this paper, we describe and compare the institutional framework of the agricultural credit markets in selected European countries. The institutions can be both formal (rules, regulations, authorities and actors) and informal (norms, values and relations). They also interact and in a situation where the formal institutions are weak, the informal ones increase in importance. The study is based on a questionnaire sent to agricultural financial experts in selected countries. The case studies show that credit regulations are typically general, with no specific regulations for the agricultural credit market. On the other hand, several countries support agricultural credit in various forms, implying that the governments do not perceive the general credit market to function in the case of agricultural firms. In a risk assessment, the most frequent reasons for rejecting a loan application are all linked to economic performance and the situation of the farmer. Personal characteristics, such as educational level or lack of experience, were generally perceived as less influential. Another interesting point when it comes to risk assessment is that in some countries the importance of asset-based lending compared with cash flow-based lending seems to differ when concerning a first-time applicant and when there is an application to extend a loan. To get an idea of the availability of credit, the loan-to-value (LTV) ratio was calculated, and it showed remarkably low values for Poland and Slovakia. For all the countries, the calculated value was lower than what the financial experts would have expected. This might imply credit rationing in agriculture in some of the countries studied. At the same time, the financial experts all judged the possibility of an agricultural firm obtaining a loan as higher than that for other small rural firms, implying that the latter are also credit-rationed.
    Date: 2013–01
  17. By: AfDB
    Date: 2013–02–26

This issue is ©2013 by Christian Calmès. It is provided as is without any express or implied warranty. It may be freely redistributed in whole or in part for any purpose. If distributed in part, please include this notice.
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