nep-ban New Economics Papers
on Banking
Issue of 2014‒12‒29
twenty-one papers chosen by
Christian Calmès, Université du Québec en Outaouais

  1. Bank Systemic Risk-Taking and Loan Pricing : Evidence from Syndicated Loans By Gong, D.
  2. The limits of model-based regulation By Behn, Markus; Haselmann, Rainer; Vig, Vikrant
  3. Contingent convertible bonds and the stability of bank funding: The case of partial writedown By Bleich, Dirk
  4. Corporate Governance and Bank Insolvency Risk: International Evidence By Anginer, Deniz; Demirguc-Kunt, Asli; Huizinga, Harry; Ma, Kebin
  5. When Arm’s Length Is Too Far. Relationship Banking over the Business Cycle By Beck, Thorsten; de Haas, Ralph; Degryse, Hans; Van Horen, Neeltje
  6. Innovation and export in SMEs: the role of relationship banking. By Serena Frazzoni; Maria Luisa Mancusi; Zeno Rotondi; Maurizio Sobrero; Andrea Vezzulli
  7. The Great Mortgaging: Housing Finance, Crises, and Business Cycles By Jordà, Òscar; Schularick, Moritz; Taylor, Alan M.
  8. Collateral Risk, Repo Rollover and Shadow Banking By Shengxing Zhang
  9. A transitions-based framework for estimating expected credit losses By Gaffney, Edward; Kelly, Robert; McCann, Fergal
  10. Do foreign banks in India indulge in cream skimming? By Mandira Sarma; Anjali Prashad
  11. A Novel Banking Supervision Method using the Minimum Dominating Set By Periklis Gogas; Theophilos Papadimitriou; Maria-Artemis Matthaiou
  12. Assessing the Basel II Internal Ratings-Based Approach: Empirical Evidence from Australia By Marek Rutkowski; Silvio Tarca
  13. Banking reform, risk-taking, and earnings quality – Evidence from transition countries By Fang , Yiwei; Hasan, Iftekhar; Li , Lingxiang
  14. Branching Efficiency in Indian Banking: An Analysis of a Demand-Constrained Network By Subhash C. Ray
  15. The joint services of money and credit By Barnett, William A.
  16. Evaluation of Credit Risk Under Correlated Defaults: The Cross-Entropy Simulation Approach By Loretta Mastroeni; Giuseppe D'Acquisto; Maurizio Naldi
  17. The Role of Card Acceptance in the Transaction Demand for Money By Huynh, Kim P.; Schmidt-Dengler, Philipp; Stix, Helmut
  18. Group Lending Without Joint Liability By Thiemo Fetzer; Maitreesh Ghatak; Jonathan de Quidt
  19. Correlated observations, the law of small numbers and bank runs By Gergely Horváth; Hubert János Kiss
  20. Securitization and Asset Prices By Yunus Aksoy; Henrique S. Basso
  21. Factors that explain the regional expansion of microfinance institutions in Peru By Annabel Vanroose

  1. By: Gong, D. (Tilburg University, Center For Economic Research)
    Abstract: In this paper we document evidence of systemic risk taking from syndicated loan pricing. Using U.S. syndicated loan data, we find that the borrower's idiosyncratic risk is positively priced whereas systematic risk is negatively related to loan spreads, controlling for firm, loan and bank specific variables. We argue that the underpricing of systematic risk relative to idiosyncratic risk suggests banks' preference for investing in systematic risk which increases interbank correlation and systemic risk of banks. We relate the incentive for systemic risk-taking to the \too-many-to-fail" guarantee. We further show that small and lowly correlated banks underprice systematic risk relative to big and more correlated banks.
    Keywords: Systemic risk-taking;; Loan pricing;; Public guarantees;; Too-many-to-fail; Syndicated
    JEL: G21 G23
    Date: 2014
  2. By: Behn, Markus; Haselmann, Rainer; Vig, Vikrant
    Abstract: In this paper, we investigate how the introduction of complex, model-based capital regulation affected credit risk of financial institutions. Model-based regulation was meant to enhance the stability of the financial sector by making capital charges more sensitive to risk. Exploiting the staggered introduction of the model-based approach in Germany and the richness of our loan-level data set, we show that (1) internal risk estimates employed for regulatory purposes systematically underpredict actual default rates by 0.5 to 1 percentage points; (2) both default rates and loss rates are higher for loans that were originated under the model-based approach, while corresponding risk-weights are significantly lower; and (3) interest rates are higher for loans originated under the model-based approach, suggesting that banks were aware of the higher risk associated with these loans and priced them accordingly. Further, we document that large banks benefited from the reform as they experienced a reduction in capital charges and consequently expanded their lending at the expense of smaller banks that did not introduce the model-based approach. Counter to the stated objectives, the introduction of complex regulation adversely affected the credit risk of financial institutions. Overall, our results highlight the pitfalls of complex regulation and suggest that simpler rules may increase the efficacy of financial regulation.
    Keywords: capital regulation,internal ratings,Basel regulation
    JEL: G01 G21 G28
    Date: 2014
  3. By: Bleich, Dirk
    Abstract: This paper adds to the growing body of literature on the design of Contingent Convertible Bonds (CoCos). We discuss how the design of the loss absorption mechanism affects the stability of bank funding and distinguish between Conversion-to-Equity (CE) CoCos, Principal WriteDown (PWD) CoCos with a full writedown feature and PWD CoCos with a partial writedown feature. As we show, the first two loss absorption mechanisms unambiguously improve a bank's stability of funding position. By contrast, the latter type of loss absorption mechanism can increase solvency risk and, moreover, is identified as a source of uncertainty regarding a bank's ex post solvency position. Bank managers, investors as well as supervisors and regulators should be aware of these potentially destabilizing effects. In this context, one important aspect is the regulatory treatment of PWD CoCos with a partial writedown feature.
    Keywords: contingent capital,banking regulation,liquidity,wholesale funding
    JEL: G18 G20 G21 G28
    Date: 2014
  4. By: Anginer, Deniz; Demirguc-Kunt, Asli; Huizinga, Harry; Ma, Kebin
    Abstract: This paper finds that shareholder-friendly corporate governance is positively associated with bank insolvency risk, as proxied by the Z-score and the Merton’s distance to default measure, for an international sample of banks over the 2004-2008 period. Banks are special in that ‘good’ corporate governance increases bank insolvency risk relatively more for banks that are large and located in countries with sound public finances, as banks aim to exploit the financial safety net. ‘Good’ corporate governance is specifically associated with higher asset volatility, more non-performing loans, and a lower tangible capital ratio. Furthermore, ‘good’ corporate governance is associated with more bank risk taking at times of rapid economic expansion. Consistent with increased risk-taking, ‘good’ corporate governance is associated with a higher valuation of the implicit insurance provided by the financial safety net, especially in the case of large banks. These results underline the importance of the financial safety net and too-big-to-fail policies in encouraging excessive risk-taking by banks.
    Keywords: Bank insolvency; Capitalization; Corporate governance; Non-performing loans
    JEL: G21 M21
    Date: 2014–10
  5. By: Beck, Thorsten; de Haas, Ralph; Degryse, Hans; Van Horen, Neeltje
    Abstract: Using a novel way to identify relationship and transaction banks, we study how banks’ lending techniques affect funding to SMEs over the business cycle. For 21 countries we link the lending techniques that banks use in the direct vicinity of firms to these firms’ credit constraints at two contrasting points of the business cycle. We show that relationship lending alleviates credit constraints during a cyclical downturn but not during a boom period. The positive impact of relationship lending in an economic downturn is strongest for smaller and more opaque firms and in regions where the downturn is more severe.
    Keywords: business cycle; credit constraints; relationship banking
    JEL: F36 G21 L26 O12 O16
    Date: 2014–06
  6. By: Serena Frazzoni; Maria Luisa Mancusi; Zeno Rotondi; Maurizio Sobrero; Andrea Vezzulli
    Abstract: This paper assesses the role of relationship lending in explaining simultaneously the innovation activity of Small and Medium Enterprises (SME), their probability to export (i.e. the extensive margin) and their share of exports on total sales conditional on exporting (i.e. the intensive margin). We adopt a measure of informational tightness based on the ratio of firm’s debt with its main bank to firm’s total assets. Our results show that the strength of the bank-firm relation has a positive impact on both SME’s probability to export and their export margins. This positive effect is only marginally mediated by the SME’s increased propensity to introduce product innovation. We further discuss the financial and non-financial channels through which the intensity of bank-firm relationship supports SMEs’ international activities.
    Keywords: margins of export, bank-firm relationships, innovation, localized knowledge spillovers.
    JEL: F10 G20 G21 O30
    Date: 2014–10
  7. By: Jordà, Òscar; Schularick, Moritz; Taylor, Alan M.
    Abstract: This paper unveils a new resource for macroeconomic research: a long-run dataset covering disaggregated bank credit for 17 advanced economies since 1870. The new data show that the share of mortgages on banks’ balance sheets doubled in the course of the 20th century, driven by a sharp rise of mortgage lending to households. Household debt to asset ratios have risen substantially in many countries. Financial stability risks have been increasingly linked to real estate lending booms which are typically followed by deeper recessions and slower recoveries. Housing finance has come to play a central role in the modern macroeconomy.
    Keywords: business cycles; financial crises; leverage; local projections; mortgage lending; recessions
    JEL: C14 C38 C52 E32 E37 E44 E51 G01 G21 N10 N20
    Date: 2014–09
  8. By: Shengxing Zhang (New York University)
    Abstract: I build a dynamic model of the shadow banking system that intermediates funds through the interbank repo market to understand its efficiency and stability. The model emphasizes a key friction: the maturity mismatch between the short-term repo and the long-term investment that banks need to finance. The haircut, interest rate, default rate of the repo contract and liquidity hoarding of banks are all determined endogenously in the equilibrium with repo rollover. And default is contagious. When collateral risk increases unexpectedly, the haircut and interest rate overshoot, triggering massive initial default and persistently hiking default rate and depressed investment.
    Date: 2014
  9. By: Gaffney, Edward (Central Bank of Ireland); Kelly, Robert (Central Bank of Ireland); McCann, Fergal (Central Bank of Ireland)
    Abstract: This paper presents a framework for estimating losses for residential mortgage loans.At the core is a transitions-based probability of default model which yields directly observ- able cash-fl ows at the loan level. The estimated model includes coefficients on unemployment, Loan to Value ratio and interest rates, all of which allow a macroeconomic scenario to be fed through the model and impact loans' probability of default and cure. Other loan-level covariates such as bank, Buy-to-Let status, and vintage also impact loans' transition probabilities. Loss Given Default is also modelled over a three-year horizon combining loan-level collateral information with macroeconomic house price forecasts. The breakout of ows from the stock of defaults allows the impact of loan modications on recovery rates to be modelled. Unlike other models of mortgage credit risk, this framework allows a hysteresis eect of the time spent in default on the probability of loan cure to be modelled explicitly. In Ireland, an increase in the time spent in default from three months to one year leads to a decrease in the probability of loan cure from 30 to 12 per cent.
    Keywords: Mortgages, default, credit risk, Markov multi-state model.
    Date: 2014–11
  10. By: Mandira Sarma (Centre for International Trade and Development,Jawaharlal Nehru University); Anjali Prashad (Centre for International Trade and Development,Jawaharlal Nehru University)
    Abstract: Foreign banks in developing countries are often found to indulge in cream skimming, a lending strategy that targets only wealthy segments of the credit market and exclude small and marginal borrowers from the general pool of borrowers. This paper attempts to investigate whether lending pattern of foreign banks in urban regions of Indian States is indicative of cream skimming. Using credit data on urban regions of 21 States of India for the period 1999-2011, this paper finds empirical evidence of cream skimming by foreign banks in India.
  11. By: Periklis Gogas (Department of Economics, Democritus University of Thrace; The Rimini Centre for Economic Analysis, Italy); Theophilos Papadimitriou (Department of Economics, Democritus University of Thrace); Maria-Artemis Matthaiou (Department of Economics, Democritus University of Thrace)
    Abstract: The magnitude of the recent financial crisis, which started from the U.S. and expanded in Europe, change the perspective on banking supervision. The recent consensus is that to preserve a healthy and stable banking network, the monitoring of all financial institutions should be under a single regulator, the Central Bank. In this paper we study the interrelations of banking institutions under the framework of Complex Networks. Specifically, our goal is to provide an auxiliary early warning system for the banking system’s supervisor that would be used in addition to the existing schemes of control. We employ the Minimum Dominating Set (MDS) methodology to reveal the most strategically important banks of the banking network and use them as alarm triggers. By monitoring the MDS subset the regulators can have an overview of the whole network. Our dataset is formed from the 200 largest American banks and we examine their interconnection through their total deposits. The MDS concept is applied for the first time in this setting and the results show that it may be an essential supplementary tool to the arsenal of a Central Bank.
    Date: 2014–11
  12. By: Marek Rutkowski; Silvio Tarca
    Abstract: The Basel II internal ratings-based (IRB) approach to capital adequacy for credit risk implements an asymptotic single risk factor (ASRF) model. Measurements from the ASRF model of the prevailing state of Australia's economy and the level of capitalisation of its banking sector find general agreement with macroeconomic indicators, financial statistics and external credit ratings. However, given the range of economic conditions, from mild contraction to moderate expansion, experienced in Australia since the implementation of Basel II, we cannot attest to the validity of the model specification of the IRB approach for its intended purpose of solvency assessment. With the implementation of Basel II preceding the time when the effect of the financial crisis of 2007-09 was most acutely felt, our empirical findings offer a fundamental assessment of the impact of the crisis on the Australian banking sector. Access to internal bank data collected by the prudential regulator distinguishes our research from other empirical studies on the recent crisis.
    Date: 2014–11
  13. By: Fang , Yiwei (BOFIT); Hasan, Iftekhar (BOFIT); Li , Lingxiang (BOFIT)
    Abstract: The dynamic banking reforms of Central and Eastern Europe (CEE) following the collapse of the Soviet Union provide an ideal research setting for examining the causal effect of institutional development on financial reporting. Using five earnings quality measures, we consistently find that banking reform improves accounting quality and reduces earnings management incentives in the 16 transition countries considered. The results strongly hold in our within-country and difference-in-difference models, as well as in non-parametric analyses. We also find supporting evidence for the notion that excessive risk-taking of banks impairs earnings quality. As a result, banking reform improves earnings quality partially through its ability to curb risk-taking behavior.
    Keywords: earnings management; earnings quality; institutional development; bank risk-taking
    JEL: E50 G15 G18 G38 M41 M48
    Date: 2014–12–02
  14. By: Subhash C. Ray (University of Connecticut)
    Abstract: In the present study we evaluate the overall cost efficiency of a network of branches of a single large public sector bank in India within the city of Calcutta using the data for the year 2012. Our objective is to determine the optimal number of branches within a postal district that could provide the observed amounts of banking services to the customers in that area at the minimum operating cost. Our DEA results show that there is an evidence of ‘over-branching’ and for the entire network reducing the total number of branches would be more cost efficient. However, there are numerous instances, where increasing the number of branches within a market area would be optimal.
    Keywords: Network Efficiency; DEA; Banking
    JEL: G21 C61
    Date: 2014–11
  15. By: Barnett, William A.
    Abstract: While credit cards provide transaction services, as do currency and demand deposits, credit cards have never been included in measures of the money supply. The reason is accounting conventions, which do not permit adding liabilities, such as credit card balances, to assets, such as money. But economic aggregation theory and index number theory are based on microeconomic theory, not accounting, and measure service flows. We derive theory needed to measure the joint services of credit cards and money. In the transmission mechanism of central bank policy, these results raise potentially fundamental questions about the traditional dichotomy between money and some forms of short term credit, such as checkable lines of credit. We do not explore those deeper issues in this paper, which focuses on measurement.
    Keywords: credit cards, money, credit, aggregation theory, index number theory, Divisia index, risk, asset pricing.
    JEL: C43 E01 E3 E40 E41 E51 E52 E58
    Date: 2014–12–01
  16. By: Loretta Mastroeni; Giuseppe D'Acquisto; Maurizio Naldi
    Abstract: Credit risk, associated to borrowers defaulting on their debts, is an ever growing source of concern for lenders. The presence of correlation among defaults may be described by the t-copula model. However, the typically large number of variables involved calls for a simulation approach. A simulation method, based on the use of the Cross-Entropy (CE) technique, is here proposed as an alternative to non-adaptive Importance Sampling (IS) techniques so far presented in the literature, the main advantage of CE being that it allows to deal easily with a wider range of probability models than ad hoc IS. The method is validated through a comparison of its results with the crude MonteCarlo and the Exponential Twist approaches. The proposed Cross-Entropy technique is shown to provide accurate results even when the sample size is several orders of magnitude smaller than the inverse of the probability to be estimated.
    Keywords: Credit risk, Cross-Entropy, Copula models
    JEL: C15 G32
    Date: 2014–09
  17. By: Huynh, Kim P.; Schmidt-Dengler, Philipp; Stix, Helmut
    Abstract: The use of payment cards, either debit or credit, is becoming more and more widespread in developed economies. Nevertheless, the use of cash remains significant. We hypothesize that the lack of card acceptance at the point of sale is a key reason why cash continues to play an important role. We formulate a simple inventory model that predicts that the level of cash demand falls with an increase in card acceptance. We use detailed payment diary data from Austrian and Canadian consumers to test this model while accounting for the endogeneity of acceptance. Our results confirm that card acceptance exerts a substantial impact on the demand for cash. The estimate of the consumption elasticity (0.23 and 0.11 for Austria and Canada, respectively) is smaller than that predicted by the classic Baumol-Tobin inventory model (0.5). We conduct counterfactual experiments and quantify the effect of increased card acceptance on the demand for cash. Acceptance reduces the level of cash demand as well as its consumption elasticity.
    Keywords: counterfactual distributions; endogenous switching regression; inventory models of money
    JEL: C35 C83 E41
    Date: 2014–10
  18. By: Thiemo Fetzer; Maitreesh Ghatak; Jonathan de Quidt
    Abstract: This paper contrasts individual liability lending with and without groups to joint liability lending. By doing so, we shed light on an apparent shift away from joint liability lending towards individual liability lending by some microfinance institutions First we show that individual lending with or without groups may constitute a welfare improvement so long as borrowers have sufficient social capital to sustain mutual insurance. Second, we explore how a purely mechanical argument in favor of the use of groups - namely lower transaction costs - may actually be used explicitly by lenders to encourage the creation of social capital. We also carry out some simulations to evaluate quantitatively the welfare impact of alternative forms of lending, and how they relate to social capital.
    Keywords: microfinance, group lending, joint liability, mutual insurance
    JEL: G11 G21 O12 O16
    Date: 2013–07
  19. By: Gergely Horváth (Department of Economic Theory, Universität Erlangen-Nürnberg); Hubert János Kiss (‘Momentum’ Game Theory Research Group, Institute of Economics, Centre for Economic and Regional Studies, Hungarian Academy of Sciences and Eötvös Loránd University - Department of Economics)
    Abstract: Empirical descriptions and studies suggest that generally depositors observe a sample of previous decisions before deciding if to keep their funds deposited or to withdraw them. These observed decisions may exhibit different degrees of correlation across depositors. In our model depositors are assumed to follow the law of small numbers in the sense that they believe that a bank run is underway if the number of observed withdrawals in their sample is high. Theoretically, with highly correlated samples and infinite depositors runs occur with certainty, while with random samples it needs not be the case, as for many parameter settings the likelihood of bank runs is less than one. To investigate the intermediate cases, we use simulations and find that decreasing the correlation reduces the likelihood of bank runs, often in a non-linear way. We also study the effect of the sample size and show that increasing it makes bank runs less likely. Our results have relevant policy implications.
    Keywords: bank runs, law of small numbers, samples, threshold decision rule
    JEL: D03 G01 G02
    Date: 2014–11
  20. By: Yunus Aksoy (Department of Economics, Mathematics & Statistics, Birkbeck); Henrique S. Basso (Banco de Espana)
    Abstract: During the 15 years prior to the global financial crisis the volume of securitized assets transacted in the US has grown substantially, reflecting a change in the nature of the financial intermediation process. Together with increased securitization, financial entities, who participate more heavily in the asset-backed security (ABS) market and hold a diversified portfolio of assets, have also become more relevant. As a result, the volume of securitization, although traditionally associated with credit markets, influences the outcomes of other asset markets. We investigate the link between securitization and asset prices and show that increases in the growth rate of the volume of ABS issuance lead to a decline in both the bond and equity premia. We then build a model of bank portfolio choice where the creation of synthetic securities may occur. The pooling and tranching of credit assets relaxes both the funding and the risk constraints financial entities face allowing them to increase balance sheet holdings. This increase in asset demand depresses the compensation for undertaking risk in the economy, confirming our empirical results. We show that financial intermediation is linked with asset prices through this portfolio mechanism, whose strength depends on the volume of deals in the securitization market.
    Keywords: Pooling and Tranching, Equity, Government Bonds, Bank Portfolio, Risk Premia.
    JEL: E44 G12 G2
    Date: 2014–11
  21. By: Annabel Vanroose
    Abstract: This paper analyzes the location decisions and geographical expansion of microfinance institutions across Peru. To this end, econometric analyses are performed on a self-constructed dataset that covers MFI presence and expansion in the 1832 districts of Peru, and this for 39 MFIs and 13 commercial banks over the period 2001-2008. The paper shows that Peruvian MFIs have expanded considerably during the last decade. MFIs especially increase access in districts with higher levels of development and therefore seem to follow principally a commercial logic. Districts with banks have also a higher probability of an MFI opening.
    Date: 2014–12–15

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