New Economics Papers
on Banking
Issue of 2013‒07‒20
eleven papers chosen by
Christian Calmès, Université du Québec en Outaouais

  1. Relationship and transaction lending in a crisis By Patrick Bolton; Xavier Freixas; Leonardo Gambacorta; Paolo Emilio Mistrulli
  2. Foreign Currency Loans and Systemic Risk in Europe By Pinar Yesin
  3. Banks' Market Valuations and Firms' Decisions: Lessons from Two Crises By Pierluigi Balduzzi; Emanuele Brancati; Fabio Schiantarelli
  4. Duration dependence and change-points in the likelihood of credit booms ending By Vitor Castro; Megumi Kubota
  5. Does Debt Discipline Bankers? An Academic Myth about Bank Indebtedness By Anat Admati; Martin Hellwig
  6. Credibility For Sale By Harris Dellas; Dirk Niepelt
  7. Large Scale Asset Purchases with Segmented Mortgage and Corporate Loan Markets By Meixing Dai; Frédéric Dufourt; Qiao Zhang
  8. Should monetary policy lean against the wind? An analysis based on a DSGE model with banking By Leonardo Gambacorta; Federico M. Signoretti
  9. Bank Deposit Contracts Versus Financial Market Participation in Emerging Economies By Alexander Zimper
  10. The transmission of banking crises to households : lessons from the 2008-2011 crises in the ECA region By Brown, Martin
  11. The Inevitability of Shadowy Banking By Edward J. Kane

  1. By: Patrick Bolton (Columbia University, NBER and CEPR.); Xavier Freixas (Universitat Pompeu Fabra, Barcelona Graduate School of Economics and CEPR); Leonardo Gambacorta (Bank for International Settlements); Paolo Emilio Mistrulli (Bank of Italy)
    Abstract: We study how relationship lending and transaction lending vary over the business cycle. We develop a model in which relationship banks gather information on their borrowers, which allows them to provide loans for profitable firms during a crisis. Due to the services they provide, operating costs of relationship banks are higher than those of transaction banks. In our model, where relationship banks compete with transaction banks, a key result is that relationship banks charge a higher intermediation spread in normal times, offering continuation-lending at more favourable terms than transaction banks to profitable firms in a crisis. Using detailed credit register information for Italian banks before and after the Lehman Brothers’ default, we are able to study how both types of bank responded to the crisis and we test existing theories of relationship banking. Our empirical analysis confirms the basic prediction of the model that relationship banks charged a higher spread before the crisis, offered more favourable continuation-lending terms in response to the crisis, and suffered fewer defaults, thus confirming the informational advantage of relationship banking.
    Keywords: relationship banking, transaction banking, crisis
    JEL: E44 G21
    Date: 2013–07
  2. By: Pinar Yesin (Swiss National Bank)
    Abstract: Foreign currency loans to the unhedged non-banking sector are remarkably prevalent in Europe and create a significant exchange-rate-induced credit risk to European banking sectors. In particular, Swiss franc (CHF)-denominated loans, popular in Eastern European countries, could trigger simultaneous bank failures if depreciation of the domestic currencies prevents borrowers from servicing the loans. Foreign currency loans thus pose a systemic risk from a “common market shock” perspective. The author uses a novel dataset of foreign-currency loans from 17 countries for 2007-11 (collected by the Swiss National Bank) and builds on the method suggested by Ranciere, Tornell, and Vamvakidis (2010) to quantify this systemic risk. The author finds that systemic risk is substantial in the non-euro area, while it is relatively low in the euro area. However, CHF-denominated loans are not the underlying source of the high systemic risk: Loans denominated in other foreign currencies (probably to a large extent in euros) contribute significantly more to the systemic risk in the non-euro area than CHF-denominated loans. Furthermore, systemic risk shows high persistence and low volatility during the sample period. The author also finds that banks in Europe have continuously held more foreign-currency-denominated assets than liabilities, indicating their awareness of the exchange-rate-induced credit risk they face.
    Date: 2013–06
  3. By: Pierluigi Balduzzi (Boston College); Emanuele Brancati (University of Rome, Tor Vergata); Fabio Schiantarelli (Boston College; IZA)
    Abstract: We test whether banks' financial market valuations have an impact on the decisions of their client firms. We investigate this transmission channel using data on Italian banks and firms during the 2006-2011 period. Italian banks experienced two large shocks: the 2007-2009 financial crisis and, perhaps more importantly, the 2010-2012 sovereign debt crisis. The Italian case is particularly interesting because Italian firms are predominantly small and privately held, and rely heavily on bank debt. Hence, most Italian firms are unable to cushion shocks to the cost and availability of bank lending by resorting to capital markets. We take advantage of a newly available data set covering a representative sample of over 3,000 firms and containing information on the identity of the bank(s) each firm has a relationship with. We measure banks' financial market conditions with the level and volatility of their CDS spread and with the level and volatility of their stock market valuations. We find robust evidence that--after controlling for common and firm-specific demand effects--a worsening of banks' financial market conditions leads younger and smaller firms to invest, hire, and borrow less: for example, a one-standard deviation increase in a bank's CDS spread decreases the investment activity of a client firm at the 10th percentile of the age distribution, and a five-year-old firm by 0.5 standard deviations. We conclude that financial market volatility has real effects even for privately held firms, and that the banking system is an important channel through which these effects take place.
    Keywords: Financial market shocks, banks, credit-default swaps, volatility, investment, employment, lending
    JEL: D92 G21
    Date: 2013–07–01
  4. By: Vitor Castro (University of Coimbra, GEMF and NIPE, Portugal); Megumi Kubota (The World Bank)
    Abstract: Whether the likelihood of a credit boom ending is dependent on its age or not, or whether the respective behavior is smooth or bumpy are important issues to which the economic literature has not given attention yet. This paper tries to fill that gap, exploring those issues with a proper duration analysis. Credit booms are identified considering two criteria well established in the literature: (i) the Mendoza-Terrones criteria and (ii) and the Gourinchas-Valdes-Landarretche criteria. A continuous-time Weibull duration model is employed over a group of 71 countries for the period 1975q1-2010q4 to investigate whether credit booms are duration dependent or not. The findings show that the likelihood of credit booms ending increases over their duration and that these events have become longer over the past decades. In addition, the paper extends the baseline Weibull duration model in order to allow for change-points in the duration dependence parameter. The empirical findings support the presence of a change-point: increasing positive duration dependence is observed in booms that last less than eight to ten quarters, but it becomes decreasing or even irrelevant for longer events. Analogous results are found for those credit boom episodes that are followed by systemic banking crisis (bad credit booms). The findings also show that credit booms are, on average, longer in industrial than in developing countries.
    Keywords: Credit booms, duration analysis, Weibull model, duration dependence, changepoints.
    JEL: C41 E32 E51
    Date: 2013–07
  5. By: Anat Admati; Martin Hellwig
    Abstract: Supplementing the discussion in our book The Bankers' New Clothes: What's Wrong with Banking and What to Do About It, this paper examines the plausibility and relevance of claims in banking theory that fragility of bank funding is useful because it imposes discipline on bank managers. The assumptions about information and about costs of bank breakdowns underlying these claims are unrealistic and they cannot be generalized without undermining the theory and policy prescriptions. The discipline narrative is also incompatible with the view that deposits and other forms of short-term bank debt contribute to liquidity provision; in this liquidity narrative, fragility of banks are a by-product of useful liquidity provision and can only be avoided by government support. We contrast both narratives with an explanation for banks' avoidance of equity and reliance on short-term debt that appeals to debt overhang and government guarantees and subsidies for debt. In this explanation, fragility of banks arises from a conflict of interest and is neither useful for society nor unavoidable.
    Date: 2013–02–12
  6. By: Harris Dellas (University of Bern, CEPR); Dirk Niepelt (Study Center Gerzensee, University of Bern, IIES Stockholm University)
    Abstract: We develop a sovereign debt model with official and private creditors where default risk depends on both the level and the composition of liabilities. Higher exposure to official lenders improves incentives to repay but carries extra costs, such as reduced ex-post flexibility. The model implies that official lending to sovereigns takes place in times of debt distress; carries a favorable rate; and can displace private funding even under pari passu provisions. Moreover, in the presence of long-term debt overhang, the availability of official funds increases the probability of default on existing debt, although default does not trigger exclusion from private credit markets. These findings help shed light on joint default and debt composition choices of the type observed during the recent sovereign debt crisis in Europe.
    Date: 2013–05
  7. By: Meixing Dai (BETA - Bureau d'économie théorique et appliquée - CNRS : UMR7522 - Université Louis Pasteur - Strasbourg I); Frédéric Dufourt (AMSE - Aix-Marseille School of Economics - Aix-Marseille Univ. - Centre national de la recherche scientifique (CNRS) - École des Hautes Études en Sciences Sociales [EHESS] - Ecole Centrale Marseille (ECM)); Qiao Zhang (BETA - Bureau d'économie théorique et appliquée - CNRS : UMR7522 - Université Louis Pasteur - Strasbourg I)
    Abstract: We introduce Large Scale Asset Purchases (LSAPs) in a New-Keynesian DSGE model that features distinct mortgage and corporate loan markets. We show that following a significant disruption of financial intermediation, central-bank purchases of mortgage-backed securities (MBS) are uniformly less effective at easing credit market conditions and stabilizing economic activity than outright purchases of corporate bonds. Moreover, the size of the effects crucially depends on the extent to which credit markets are segmented, i.e. to which a "portfolio balance channel" is at work in the economy. More segmented credit markets imply larger, but more local effects of particular asset purchases. With strongly segmented credit markets, large scale purchases of MBS are useful to stabilize the housing market but do little to mitigate the contractionary effect of the crisis on employment and output.
    Keywords: financial frictions; mortgage-backed securities (MBS); corporate bonds; unconventional monetary policy; large scale asset purchases (LSAPs); portfolio balance channel; credit spreads
    Date: 2013–06
  8. By: Leonardo Gambacorta (Bank for International Settlements); Federico M. Signoretti (Bank of Italy)
    Abstract: The global financial crisis has reaffirmed the importance of financial factors for macroeconomic fluctuations. Recent work has shown how the conventional pre-crisis prescription that monetary policy should pay no attention to financial variables over and above their effects on inflation may no longer be valid in models that consider frictions in financial intermediation (Cúrdia and Woodford, 2009). This paper analyzes whether Taylor rules augmented with asset prices and credit can improve upon a standard rule in terms of macroeconomic stabilization in a DSGE with both a firms' balance-sheet channel and a bank-lending channel and in which the spread between lending and policy rates endogenously depends on banks' leverage. The main result is that, even in a model in which financial stability does not represent a distinctive policy objective, leaning-against-the-wind policies are desirable in the case of supply-side shocks whenever the central bank is concerned with output stabilization, while both strict inflation targeting and a standard rule are less effective. The gains are amplified if the economy is characterized by high private sector indebtedness.
    Keywords: DSGE, monetary policy, asset prices, credit channel, Taylor rule, leaning-against-the-wind
    JEL: E30 E44 E50
    Date: 2013–07
  9. By: Alexander Zimper (Department of Economics, University of Pretoria)
    Abstract: The financial sector of emerging economies in Africa is characterized by a non-competitive banking sector which dominates any direct participation of agents in asset markets. Based on a variant of Diamond and Dybvig's (1983) model of financial intermediation, we formally explain both stylized facts through market inexperience of agents in emerging economies. While experienced agents correctly predict future market clearing equilibrium prices, inexperienced agents are ignorant about future market equilibria. As a consequence, a monopolistic banking sector can exploit these agents because their only outside option is an autarkic investment project.
    Keywords: Emerging Economies, Demand Deposit Contract, Asset Market, Asymmetric Information
    JEL: O16 G14 G21
    Date: 2013–07
  10. By: Brown, Martin
    Abstract: This paper examines the impact of the recent banking crises in Europe and Central Asia on households'incomes and consumption patterns. The analysis is based on the 2010 wave of the Life in Transition Survey, which covers 12,704 households in eleven countries that experienced a banking crisis between 2008 and 2011. It finds that households in middle-income crisis countries are more than twice as likely to be hit by an income shock as households in high-income crisis countries. The labor market channel is the predominant source of income shocks, with wage reductions more widespread than job-losses. In reaction to income shocks, households reallocate spending from non-essential goods to staple foods. Reductions in staple-food consumption are, however, prevalent among low-income households. The paper examines potential crisis mitigators and finds that at the macro level a flexible monetary regime is associated with fewer cutbacks in household consumption. At the meso level, it finds no evidence that foreign bank ownership amplified the transmission of banking crises to households in Europe. With respect to micro-level mitigators, the analysis finds that diversified income sources as well as stocks of non-financial and financial assets help households to cushion income shocks. Access to informal and formal credit also mitigates the impact of income shocks on household consumption, with the former especially important in middle-income countries.
    Keywords: Access to Finance,Debt Markets,Emerging Markets,Economic Theory&Research,Banks&Banking Reform
    Date: 2013–07–01
  11. By: Edward J. Kane
    Abstract: Shadowy banking is safety-net arbitrage. It employs substitutes for products and activities performed within the traditional banking sector. The shadows obscure organizational and transactions strategies that avoid regulation and extract subsidies by adaptive innovation. Because credit support kicks in when private equity is exhausted, safety nets supply badly structured equity capital-- and not insurance-- to firms that engage in shadowy activities. As coerced equity investors whose liability is unlimited, taxpayers would benefit if information systems and corporate law were revised to give them much the same safeguards and rights of disclosure as a minority shareholder.
    Date: 2013–04–22

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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