New Economics Papers
on Banking
Issue of 2014‒08‒09
twenty-one papers chosen by
Christian Calmès, Université du Québec en Outaouais

  1. The dark and bright sides of global banking: a (somewhat) cautionary tale from emerging Europe By Ralph De Haas
  2. Financial Activities Taxes, Bank Levies and Systemic Risk By Giuseppina Cannas; Jessica Cariboni; Massimo Marchesi; Gaëtan Nicodème; Marco Petracco Giudici; Stefano Zedda
  3. The real estate and credit bubble: Evidence from Spain By Ozlem Akin; José Garcia Montalvo; Jaume Garcia Villar; José-Luis Peydró; Josep M. Raya
  4. The determinants and profitability of switching costs in Chinese banking By Yin, Wei; Matthews, Kent
  5. Heterogeneous effects of risk-taking on bank efficiency : a stochastic frontier model with random coefficients By Miguel Sarmiento; Jorge E. Galán
  6. What determines cross-border bank lending and risk-taking? The effects of culture, geography, institutions, and information exchange By Owen, Ann L.; Temesvary, Judit
  7. Banks and capital requirements: channels of adjustment By Benjamin H Cohen; Michela Scatigna
  8. Reciprocal Brokered Deposits, Bank Risk, and Recent Deposit Insurance Policy By Guo Li; Sherrill Shaffer
  9. Preferential regulatory treatment and banks' demand for government bonds By Clemens Bonner
  10. Counter Cyclical Financial Regulation: Potential for Engendering Greater Stability in the Financial System By Devika Dutt
  11. Rethinking the Aims of Prudential Regulation : a speech at the Federal Reserve Bank of Chicago Bank Structure Conference, Chicago, Illinois, May 8, 2014 By Tarullo, Daniel K.
  12. Financial incentives and loan officer behavior: Multitasking and allocation of effort under an incomplete contract By Behr, Patrick; Drexler, Alejandro; Gropp, Reint; Guettler, Andre
  13. Cash versus debit card: the role of budget control By Lola Hernandez; Nicole Jonker; Anneke Kosse
  14. Financial Stability and Financial Inclusion By Peter J. Morgan; Victor Pontines
  15. Executive compensation structure and credit spreads By Colonnello, Stefano; Curatola, Giuliano; Ngoc Giang Hoang
  16. Contagious Synchronization and Endogenous Network Formation in Financial Networks By Christoph Aymanns; Co-Pierre Georg
  17. Banks, Sovereign Risk and Unconventional Monetary Policies By Stéphane Auray; Aurélien Eyquem; Xiaofei Ma
  18. Envelope Condition Method with an Application to Default Risk Models By Cristina Arellano; Lilia Maliar; Serguei Maliar; Viktor Tsyrennikov
  19. Banks as Patient Debt Investors : A speech at the American Economic Association/American Finance Association Joint Luncheon, Philadelphia, Pennsylvania, January 3, 2014 By Stein, Jeremy C.
  20. Tailored Supervision of Community Banks : a speech at the Independent Community Bankers of America 2014 Washington Policy Summit, Washington, D.C., May 1, 2014 By Yellen, Janet L.
  21. The Word on Banking - Social Ties, Trust, and the Adoption of Financial Products. By Eleonora Patacchini; Edoardo Rainone

  1. By: Ralph De Haas (EBRD)
    Abstract: This paper reviews the literature on the benefits and risks of global banking, with a focus on emerging Europe. It argues that while the potential destabilising impact of global banks was well understood before the 2008-09 financial crisis, the sheer magnitude of this impact in the case of systemically relevant foreign bank subsidiaries was under-appreciated. A second lesson from the crisis is that banks’ funding structure, in particular the use of short-term wholesale funding, matters as much for lending stability as does their ownership structure.
    Keywords: Global banks, financial crisis, bank funding
    JEL: F15 F23 F36 G21
    Date: 2014–07
  2. By: Giuseppina Cannas (Joint Research Centre of the European Commission); Jessica Cariboni (Joint Research Centre of the European Commission); Massimo Marchesi (European Commission); Gaëtan Nicodème (European Commission); Marco Petracco Giudici (Joint Research Centre of the European Commission); Stefano Zedda (Joint Research Centre of the European Commission)
    Abstract: The question of additional taxes on banking institutions has recently been debated.At the same time, financial regulation in the banking sector is undergoing many changes aimed at strengthening financial stability. This paper uses SYMBOL, a micro-simulation model of the banking system, to estimate contributions to systemic risk of individual banks under various future regulatory scenarios and compares them to their potential tax liabilities under alternative designs of Financial Activity Taxes and Bank Levies. The results show that when contagion is not avoided, all taxes perform about the same way. However, when contagion is avoided, bank levies outperform FATs.
    Keywords: Taxation; Banks; Financial Activity Tax; Bank levy; Systemic Risk; Regulation
    JEL: F23 G32 H25 R38
    Date: 2014–04
  3. By: Ozlem Akin; José Garcia Montalvo; Jaume Garcia Villar; José-Luis Peydró; Josep M. Raya
    Abstract: We analyze the determinants of real estate and credit bubbles using a unique borrower-lender matched dataset on mortgage loans in Spain. The dataset contain real estate credit and price conditions (loan principal and spread, and the appraisal and market price) at the mortgage level, matched with borrower characteristics (such as income, labor status and contract) and the lender identity, over the last credit boom and bust. We find that lending standards are softer in the boom than in the bust. Moreover, despite some adjustment in lending conditions in the good times depending on borrower risk, the results suggest too soft lending standards and excessive risk-taking in the boom. For example, mortgage spreads for non-employed are identical to employed borrowers during the boom. Banks with worse corporate governance problems soften even more the standards. Finally, we analyze the mechanism by which banks could increase the supply of mortgage loans despite of regulatory restrictions on LTVs. The evidence is consistent with banks encouraging real estate appraisal firms to introduce an upward bias in appraisal prices (29%), to meet loan-to-value regulatory thresholds (40% of mortgages are just bunched on these limits), thus building-up the credit and the real estate bubble.
    Keywords: Lending standards; credit supply; excessive risk-taking; bank incentives; conflicts of interest; moral hazard; prudential policy; financial crises; real estate bubble.
    JEL: G01 G21 G28
    Date: 2014–07
  4. By: Yin, Wei (Cardiff Business School); Matthews, Kent (Cardiff Business School)
    Abstract: Using a sample of 151 banks over the period 2003 to 2010, this paper estimates a model that examines the effect of switching costs in the Chinese loan market on banking profitability. In keeping with the extant empirical literature it reports a positive relationship between bank profitability and switching costs. Furthermore it reports the estimation of a systems model of switching costs and profitability. The main result is that bank size measured by total assets is has a complex relationship with switching costs. Competition between small banks creates the incentive for lock-in and increased switching costs whereas very large banks are less exercised by lock-in and switching costs. The study also finds that concentration has a negative relationship with switching costs and profitability, confirming the accepted view that the large state-owned banks are concerned with social as well as profit objectives.
    Keywords: Chinese banking; switching costs; bank profitability
    JEL: G21 C51 L14
    Date: 2014–07
  5. By: Miguel Sarmiento; Jorge E. Galán
    Abstract: We estimate a stochastic frontier model with random inefficiency parameters, which allows us not only to identify the role of bank risk-taking on driving cost and profit inefficiency, but also to recognize heterogeneous effects of risk exposure on banks with different characteristics. We account for an integral group of risk exposure covariates including credit, liquidity, capital and market risk, as well as bank-specific characteristics of size and affiliation. The model is estimated for the Colombian banking sector during the period 2002-2012. Results suggest that risk-taking drives inefficiency and its omission leads to over (under) estimate cost (profit) efficiency. Risk-taking is also found to have different effects on efficiency of banks with different size and affiliation, and those involved in mergers and acquisitions. In particular, greater exposures to credit and market risk are found to be key profit efficiency drivers.Likewise, lower liquidity risk and capital risk lead to higher efficiency in both costs and profits. Large, foreign and merged banks benefit more when assuming credit risk, while small, domestic and non-merged banks institutions take advantage of assuming higher market risk
    Keywords: Bank efficiency, Bayesian Inference, Heterogeneity, Random Parameters, Risk-Taking, Stochastic frontier models
    JEL: C11 C23 C51 D24 G21 G32
    Date: 2014–07
  6. By: Owen, Ann L.; Temesvary, Judit
    Abstract: We explore the effects of culture, regulation, and geographical factors on bilateral cross-border bank lending. Using a newly compiled dataset on BIS-reporting banks’ activities, we find that geographical factors, information flows and common institutional arrangements are the primary drivers of bilateral bank lending. Trust between individuals in the two countries matters only as a proxy for other cultural similarities. The relationship between bank regulatory differences and lending flows has changed over time. Before the crisis, banks made more cross-border loans in countries with regulations that promoted market discipline and transparency, but took on more risk in countries that had less transparency, perhaps in pursuit of higher returns. This relationship between transparency and banking flows has disappeared in the aftermath of the financial crisis.
    Keywords: bank lending; international banking; bank regulations; gravity models; cross-country analysis
    JEL: E51 F3
    Date: 2014–07–29
  7. By: Benjamin H Cohen; Michela Scatigna
    Abstract: Bank capital ratios have increased steadily since the financial crisis. For a sample of 94 large banks from advanced and emerging economies, retained earnings account for the bulk of their higher risk-weighted capital ratios, with reductions in risk weights playing a lesser role. On average, banks continued to expand their lending, though lending growth was relatively slower among European banks. Lower dividend payouts and (for advanced economy banks) wider lending spreads have contributed to banks’ ability to use retained earnings to build capital. Banks that came out of the crisis with higher capital ratios and stronger profitability were able to expand lending more.
    Keywords: banks, bank capital, regulation, capital ratios, Basel III
    Date: 2014–03
  8. By: Guo Li; Sherrill Shaffer
    Abstract: This study provides new evidence regarding reciprocal brokered deposits (RBDs), regulatory responses, and bank risk, contributing to prior studies in four ways. First, using updated financial Call Report data and bank failure data through 2012, we reexamine the moral hazard hypothesis that banks using RBDs exhibit higher risk. Second, we uncover a previously overlooked positive association between RBDs and banks’ cost of failure. Third, we apply Granger causality tests; and finally, we test whether the FDIC’s recent revision of its pricing discourages the use of RBDs and weakens its association with bank risk.
    Keywords: Reciprocal Brokered Deposits, Moral Hazard, cost of failure
    JEL: G21 G22 G28
    Date: 2014–07
  9. By: Clemens Bonner
    Abstract: Government bonds receive preferential treatment in financial regulation. The purpose of this paper is to analyze the impact of this preferential treatment on banks' demand for government bonds. Using unique transaction-level data, our analysis suggests that preferential treatment in liquidity and capital regulation increases banks' demand for government bonds beyond their own risk appetite. Liquidity and capital regulation also seem to incentivize banks to substitute other bonds with government bonds. On top of that, we find evidence that regulation leads to a longer-term increase in government bond holdings. Finally, our results suggest that higher government bond holdings are associated with more lending and lower profits during normal times but not during stress.
    Keywords: Government bonds; financial markets; regulation; liquidity; capital
    JEL: G18 G21 E42
    Date: 2014–07
  10. By: Devika Dutt (Centre for Economic Studies and Planning, School of Social Sciences, Jawaharlal Nehru University)
    Abstract: Financial Crises can be shown to be related to the pro-cyclical nature of finance. In fact, the bigger financial crises are almost always preceded by a credit market or an asset market boom. And the recurrence of crises time and again suggests that financial regulation as it exists today has been ineffectual in preventing them. This paper explores the role that Counter-cyclical Financial Regulation could potentially play in the bringing about greater stability in the financial system by moderating the boom, so as to mitigate the bust. It considers the anatomy of a typical crisis using Minsky's Financial Instability Hypothesis, and tries to identify the general factors that trigger crises that regulation could address. Counter-cyclical regulation leans against the build-up of a credit bubble, and makes provisions when times are good for when the bubble burst and things turn awry. The paper builds a heuristic model to demonstrate how such regulation can impede the growth of a bubble. The paper also discusses the political economy associated with counter-cyclical regulation. Despite the limited experience with such regulation and the potentially adverse impact on output growth, counter-cyclical financial regulation has great potential for preventing financial crises.
    Keywords: Counter-cyclical financial regulation, credit cycles, endogenous instability, financial crisis.
    JEL: G01 G18 E32 E44
    Date: 2013
  11. By: Tarullo, Daniel K. (Board of Governors of the Federal Reserve System (U.S.))
    Date: 2014–05–08
  12. By: Behr, Patrick; Drexler, Alejandro; Gropp, Reint; Guettler, Andre
    Abstract: In this paper we investigate the implications of providing loan officers with a compensation structure that rewards loan volume and penalizes poor performance versus a fixed wage unrelated to performance. We study detailed transaction information for more than 45,000 loans issued by 240 loan officers of a large commercial bank in Europe. We examine the three main activities that loan officers perform: monitoring, originating, and screening. We find that when the performance of their portfolio deteriorates, loan officers increase their effort to monitor existing borrowers, reduce loan origination, and approve a higher fraction of loan applications. These loans, however, are of above-average quality. Consistent with the theoretical literature on multitasking in incomplete contracts, we show that loan officers neglect activities that are not directly rewarded under the contract, but are in the interest of the bank. In addition, while the response by loan officers constitutes a rational response to a time allocation problem, their reaction to incentives appears myopic in other dimensions. --
    Keywords: loan officer,incentives,monitoring,screening,loan origination
    JEL: G21 J33
    Date: 2014
  13. By: Lola Hernandez; Nicole Jonker; Anneke Kosse
    Abstract: Due to the financial crisis, an increasing number of households face financial problems. This may lead to an increasing need for monitoring spending and budgets. We demonstrate that both cash and the debit card are perceived as helpful in this respect. We show that, on average, consumers responsible for the financial decision making within a household find the debit card more useful for monitoring their household finances than cash. Individuals differ in major respects, however. In particular, low earners and the liquidity-constrained prefer cash as a monitoring and budgeting tool. Finally, we present evidence that at an aggregated level, such preferences strongly affect consumer payment behaviour. We suggest that the substitution of cash by cards may slow down because of the financial crisis. Also, we show that cash still brings benefits that electronic alternatives have been unable to match. This suggests that inclusion of enhanced budgeting and monitoring features in electronic payment instruments may encourage consumers to use them more frequently.
    Keywords: payment surveys; cash; debit card; consumer choice; budgeting; financial distress; self-control
    JEL: C81 D12 D14 E41 G21
    Date: 2014–07
  14. By: Peter J. Morgan (Asian Development Bank Institute (ADBI)); Victor Pontines
    Abstract: Developing economies are seeking to promote financial inclusion, i.e., greater access to financial services for low-income households and firms, as part of their overall strategies for economic and financial development. This raises the question of whether financial stability and financial inclusion are, broadly speaking, substitutes or complements. In other words, does the move toward greater financial inclusion tend to increase or decrease financial stability? A number of studies have suggested both positive and negative ways in which financial inclusion could affect financial stability, but very few empirical studies have been made of their relationship. This partly reflects the scarcity and relative newness of data on financial inclusion. This study contributes to the literature on this subject by estimating the effects of various measures of financial inclusion (together with some control variables) on some measures of financial stability, including bank non-performing loans and bank Z-scores. We find some evidence that an increased share of lending to small and medium-sized enterprises (SMEs) aids financial stability, mainly by reducing non-performing loans (NPLs) and the probability of default by financial institutions. This suggests that policy measures to increase financial inclusion, at least by SMEs, would have the side-benefit of contributing to financial stability as well.
    Keywords: Financial Stability, financial inclusion, SMEs, low-income households, non-performing loans
    JEL: G21 G28 O16
    Date: 2014–07
  15. By: Colonnello, Stefano; Curatola, Giuliano; Ngoc Giang Hoang
    Abstract: We develop a model of managerial compensation structure and asset risk choice. The model provides predictions about how inside debt features affect the relation between credit spreads and compensation components. First, inside debt reduces credit spreads only if it is unsecured. Second, inside debt exerts important indirect effects on the role of equity incentives: When inside debt is large and unsecured, equity incentives increase credit spreads; When inside debt is small or secured, this effect is weakened or reversed. We test our model on a sample of U.S. public firms with traded CDS contracts, finding evidence supportive of our predictions. To alleviate endogeneity concerns, we also show that our results are robust to using an instrumental variable approach. --
    Keywords: Compensation Structure,Credit Spread,Risk-Taking,Inside Debt,Business Cycle
    JEL: G32 G34 J32 J33 M52
    Date: 2014
  16. By: Christoph Aymanns; Co-Pierre Georg
    Abstract: When banks choose similar investment strategies the financial system becomes vulnerable to common shocks. We model a simple financial system in which banks decide about their investment strategy based on a private belief about the state of the world and a social belief formed from observing the actions of peers. Observing a larger group of peers conveys more information and thus leads to a stronger social belief. Extending the standard model of Bayesian updating in social networks, we show that the probability that banks synchronize their investment strategy on a state non-matching action critically depends on the weighting between private and social belief. This effect is alleviated when banks choose their peers endogenously in a network formation process, internalizing the externalities arising from social learning.
    Date: 2014–08
  17. By: Stéphane Auray (CREST-ENSAI, ULCO and CIRPEE); Aurélien Eyquem (Université Lumière Lyon 2); Xiaofei Ma (CREST-ENSAI et Université Lumière Lyon 2)
    Abstract: We develop a two-country model with an explicitly microfounded interbank market and sovereign default risk. Calibrated to the Euro Area, the model performs satisfactorily in matching key business cycle facts on real, financial and fiscal time series. We then use the model to assess the effects of a large crisis and quantify the potential effects of alternative unconventional policies on the dynamics of GDP, sovereign default risk and public indebtedness. We show that quantitative monetary easing is more efficient in stimulating GDP, while qualitative monetary easing relieves financial tensions and sovereign risk more efficiently. In terms of welfare, in the short run, unconventional monetary policies bring sizable welfare gains for households, while the long term effects are much smaller
    Keywords: Recession, Interbank Market, Sovereign Default, Monetary Policy
    JEL: E44 F34 G15
    Date: 2014–03
  18. By: Cristina Arellano (Federal Reserve Bank of Minneapolis); Lilia Maliar (Department of Economics, Stanford University); Serguei Maliar (Leavey School of Business, Santa Clara University); Viktor Tsyrennikov (Department of Economics, Cornell University)
    Abstract: We develop an envelope condition method (ECM) for dynamic programming problems –a tractable alternative to expensive conventional value function iteration. ECM has two novel features: First, to reduce the cost, ECM replaces expensive backward iteration on Bellman equation with relatively cheap forward iteration on an envelope condition. Second, to increase the accuracy of solutions, ECM solves for derivatives of a value function jointly with a value function itself. We complement ECM with other computational techniques that are suitable for high-dimensional problems, such as simulation-based grids, monomial integration rules and derivative-free solvers. The resulting value-iterative ECM method can accurately solve models with at least upto 20 state variables and can successfully compete in accuracy and speed with state-of-the-art Euler equation methods. We also use ECM to solve a challenging default risk model with a kink in value and policy functions, and we …nd it to be fast, accurate and reliable.
    Keywords: Dynamic programming, Value function iteration, Bellman equation, Endogenous grid, Envelope condition, Curse of dimensionality, Large scale, Sovereign debt, Default risk
    JEL: C6 C61 C63 C68
    Date: 2014–07
  19. By: Stein, Jeremy C. (Board of Governors of the Federal Reserve System (U.S.))
    Date: 2014–01–03
  20. By: Yellen, Janet L. (Board of Governors of the Federal Reserve System (U.S.))
    Date: 2014–05–01
  21. By: Eleonora Patacchini (Cornell University, EIEF and CEPR); Edoardo Rainone (Banca d'Italia and Università di Roma "La Sapienza")
    Abstract: This paper studies the importance of social interactions for the adoption of financial products. We exploit a unique dataset of friendships among United States students and a novel estimation strategy that accounts for possibly endogenous network formation. We find that not all social contacts are equally important: only those with a long-lasting relationship influence financial decisions. Moreover, the correlation in agents' behavior only arises among long-lasting ties in cohesive network structures. This evidence is consistent with an important role of trust in financial decisions. Repeated interactions generate trust among agents, which in turn aggregate in tightly knit groups. When agents have to decide whether or not to adopt a financial instrument they face a risk and might place greater value on information coming from agents they trust. These results can help to understand the growing importance of face-to-face social contacts for financial decisions.
    Date: 2014

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