nep-ban New Economics Papers
on Banking
Issue of 2018‒08‒27
twenty-one papers chosen by
Christian Calmès, Université du Québec en Outaouais

  1. International Banking and Cross-border Effects of Regulation: Lessons from Portugal By Diana Bonfim; Sónia Costa
  2. Convertible bonds and bank risk-taking By Martynova, Natalya; Perotti, Enrico C.
  3. A Theory of Government Bailouts in a Heterogeneous Banking System By Filomena Garcia; Ettore Panetti
  4. Bank competition and stability in the United Kingdom By de-Ramon, Sebastian; Francis, William; Straughan, Michael
  5. Inefficiency Distribution of the European Banking System By João Oliveira
  6. Housing Prices and Consumer Spending: The Bank Balance Sheet Channel By Nuno Paixao
  7. The Effect of Bank Recapitalization Policy on Corporate Investment: Evidence from a Banking Crisis in Japan By Kasahara, Hiroyuki; Sawada, Yasuyuki; Suzuki, Michio
  8. Repo market functioning: the role of capital regulation By Van Horen, Neeljte; Kotidis, Antonis
  9. Shadow Banking and the Four Pillars of Traditional Financial Intermediation By Emmanuel Farhi; Jean Tirole
  10. Bank use of sovereign CDS in the eurozone crisis: Hedging and risk incentives By Acharya, Viral V.; Gündüz, Yalin; Johnson, Tim
  11. Would macroprudential regulation have prevented the last crisis? By Aikman, David; Bridges, Jonathan; Kashyap, Anil; Siergert, Caspar
  12. On the Direct and Indirect Real Effects of Credit Supply Shocks By Laura Alfaro; Enrique Moral-Benito; Manuel Garcia-Santana
  13. Quantitative easing, portfolio rebalancing and credit growth: Micro evidence from Germany By Tischer, Johannes
  14. Equity, debt and moral hazard: the optimal structure of banks’ loss absorbing capacity By Tanaka, Misa; Vourdas, John
  15. Bank resolution and public backstop in an asymmetric banking union By Segura, Anatoli; Vicente, Sergio
  16. Basel III capital requirements and heterogeneous banks By Müller, Carola
  17. Why do banks securitise their assets? Bank-level evidence from over one hundred countries in the pre-crisis period By Fabio Panetta; Alberto Franco Pozzolo
  18. A profit-to-provisioning approach to setting the countercyclical capital buffer: the Czech example By Pfeifer, Lukáš; Hodula, Martin
  19. Maybe Some People Shouldn’t Own (3) Homes By Christopher Foote; Jaromir Nosal; Lara Loewenstein; Paul Willen
  20. An Equilibrium Model of Housing and Mortgage Markets with State-Contingent Lending Contracts By Alexei Tchistyi
  21. Mortgage-rate pass-through in the presence of refinancing By David Berger; Fabrice Tourre; Konstantin Milbradt

  1. By: Diana Bonfim; Sónia Costa
    Abstract: This paper offers a contribution to understand the cross-border effects of bank regulation using data on Portuguese banks. We find that the effect of foreign regulation on domestic credit growth depends on the type of regulation, on the channel of transmission as well as on the legal form of the bank. Our results show that a tightening in foreign regulation leads to a decrease in the growth of domestic credit in the case of concentration ratios and capital requirements and to the opposite effect in the case of sector specific capital buffers and reserve requirements in foreign currencies. We also find significant cross-border effects for the loan-to-value limits. In this case, cross-border spillovers work in different ways for domestic banks with international activity and for foreign banks: after a tightening in this instrument abroad domestic banks decrease credit growth in Portugal while foreign banks increase it. Finally, we show that the cross-border effects of capital requirements work differently through branches and subsidiaries.
    JEL: F42 G21 G28
    Date: 2017
  2. By: Martynova, Natalya; Perotti, Enrico C.
    Abstract: We study how contingent capital affects banks' risk choices. When triggered in highly levered states, going-concern conversion reduces risk-taking incentives, unlike conversion at default by traditional bail-inable debt. Interestingly, contingent capital (CoCo) may be less risky than bail-inable debt as its lower priority is compensated by a lower induced risk. The main beneficial effect on risk incentives comes from reduced leverage upon conversion, while any equity dilution has the opposite effect. This is in contrast to traditional convertible debt, since CoCo bondholders have a short option position. As a result, principal write-down CoCo debt is most desirable for risk preventive pur- poses, although the effect may be tempered by a higher yield. The risk reduction effect of CoCo debt depends critically on the informativeness of the trigger. As it should ensure deleveraging in all states with high risk incentives, it is always inferior to pure equity.
    Keywords: Banks,Contingent Capital,Risk-shifting,Financial Leverage
    JEL: G13 G21 G28
    Date: 2018
  3. By: Filomena Garcia; Ettore Panetti
    Abstract: How should a government bail out a heterogeneous banking system subject to systemic self-fulfilling runs? To answer this question, we develop a theory of banking with multiple groups of depositors of different size and wealth, where systemic self-fulfilling runs emerge as a consequence of a global game, and a government uses a public good to bailout banks through liquidity injections. In this framework, we characterize the endogenous probability of a systemic self-fulfilling run, and the conditions under which a full bailout cannot be part of the equilibrium. The optimal bailout strategy should target those banks whose bailout has the largest marginal impact on the probability of a systemic self-fulfilling run, and whose depositors are at the lower end of the wealth distribution.
    JEL: D81 G01 G21 G28
    Date: 2017
  4. By: de-Ramon, Sebastian (Bank of England); Francis, William (Bank of England); Straughan, Michael (Bank of England)
    Abstract: This paper examines the effects of competition on bank stability in the United Kingdom between 1994 and 2013. We construct several measures of competition and test the relationship between competition and bank stability. We find that, on average, competition lowers stability, but that its effect varies across banks depending on the underlying financial health of the institution. Competition encourages relatively less sound banks (closer to insolvency) to reduce costs, lower portfolio risk and increase capital ratios, strengthening their stability, while it lowers the incentives of relatively more sound banks (farther from insolvency) to build capital ratios, weakening their stability. These findings imply trade-offs at the bank-level that may need to be weighed when evaluating policies with consequences for competition.
    Keywords: Bank competition; bank stability; Boone indicator; Lerner index.
    JEL: G21 G28 L22
    Date: 2018–08–06
  5. By: João Oliveira
    Abstract: The inefficiency of the European banking system has been pointed out as a major vulnerability from a financial stability point-of-view. This paper contributes to the assessment of this vulnerability by considering several important features of financial intermediation such as factor prices, economies of scope and scale. We use a stochastic frontier analysis method to characterize the production function of financial intermediation in Europe and quantify inefficiency. We find that: (i) in 2013 the median European bank operated with costs 25 to 100% above the efficient level; (ii) there is ambiguous evidence on productivity growth, although inefficiency of financial intermediation has been increasing over time, possibly driven by the least efficient banks; (iii) increasing returns to scale are limited to smaller banks, although scope savings are found to be robust across all models for the average bank and (iv) that there exists a positive association between inefficiency-cost and implicit credit spreads, which are an indicator of credit market restrictions.
    JEL: D24 G21 L13
    Date: 2017
  6. By: Nuno Paixao (Bank of Canada)
    Abstract: I quantify the extent to which deterioration of bank balance sheets explains the large contraction in housing prices and consumption experienced by the U.S. during the last recession. I introduce a Banking Sector with balance sheet frictions into a model of long-term collateralized debt with risk of default. Credit supply is endogenously determined and depends on the capitalization of the entire banking sector. Mortgage spreads and endogenous down payments increase in periods when banks are poorly capitalized. I simulate an increase in the stock of housing and a negative income shock to match the decline in house prices between 2006-2009. The model generates changes in consumption, foreclosures and refinance rates similar to those observed in the U.S. between 2006 and 2009. Changes in financial intermediaries’ cost of funding explain, respectively, 38, 22 and 29 percent of the changes in housing prices, foreclosures and consumption generated by the model. These results show that the endogenous response of banks’ credit supply can partially explain how changes in housing prices affect consumption decisions. I use this framework to analyze the impact of debt forgiveness and banks’ recapitalization to mitigate the drop in housing prices and consumption. I also present empirical evidence that balance sheet mechanism implied by the model was operational during this period. In other words, I show that during the great recession, changes in the real estate prices impacted the balance sheet of the banks that reacted by contracting their mortgage credit supply.
    Date: 2018
  7. By: Kasahara, Hiroyuki; Sawada, Yasuyuki; Suzuki, Michio
    Abstract: This article examines the effect of government capital injections into nancially troubled banks on corporate investment during the Japanese banking crisis of the late 1990s. By helping banks meet the capital requirements imposed by Japanese banking regulation, recapitalization enables banks to respond to loan demands, which could help firms increase their investment. To test this mechanism empirically, we combine the balance sheet data of Japanese manufacturing firrms with bank balance sheet data and estimate a linear investment model where the investment rate is a function of not only firm productivity and size but also bank regulatory capital ratios. We find that the coefficient of the interaction between a firm's total factor productivity measure and a bank's capital ratio is positive and significant, implying that the bank's capital ratio affects more productive firms. Counterfactual policy experiments suggest that capital injections made in March 1998 and 1999 had a negligible impact on the average investment rate, although there was a reallocation effect, shifting investments from low- to high-productivity firms.
    Keywords: Capital injection, Bank regulation, Banking crisis
    JEL: E22 G21 G28
    Date: 2018–03
  8. By: Van Horen, Neeljte (Bank of England); Kotidis, Antonis (University of Bonn)
    Abstract: This paper shows that the leverage ratio affects repo intermediation for banks and non-bank financial institutions. We exploit a novel regulatory change in the UK to identify an exogenous intensification of the leverage ratio and combine this with supervisory transaction-level data capturing the near-universe of gilt repo trading. Studying adjustments at the dealer-client level and controlling for demand and confounding factors, we find that dealers subject to a more binding leverage ratio reduced liquidity in the repo market. This affected their small but not their large clients. We further document a reduction in frequency of transactions and a worsening of repo pricing, but no adjustment in haircuts or maturities. Finally, we find evidence of market resilience, based on existing, rather than new repo relationships, with foreign, non-constrained dealers stepping in. Overall, our findings help shed light on the impact of Basel III capital regulation on repo markets.
    Keywords: Capital regulation; leverage ratio; repo market; non-bank financial institutions
    JEL: G10 G21 G23
    Date: 2018–08–03
  9. By: Emmanuel Farhi; Jean Tirole
    Abstract: Traditional banking is built on four pillars: SME lending, access to public liquidity, deposit insurance, and prudential supervision. This paper unveils the logic of the quadrilogy by putting core services to “special depositors and borrowers” at the heart of the analysis, and makes room for bank and depositor implicit and explicit guarantees. It analyzes how prudential regulation must adjust to the emergence of shadow banking. The model also rationalizes ring fencing between regulated and shadow banking and the sharing of liquidity in centralized platforms to counter syphoning and financial contagion.
    Date: 2018
  10. By: Acharya, Viral V.; Gündüz, Yalin; Johnson, Tim
    Abstract: Using a comprehensive dataset from German banks, we document the usage of sovereign credit default swaps (CDS) during the European sovereign debt crisis of 2008-2013. Banks used the sovereign CDS market to extend, rather than hedge, their long exposures to sovereign risk during this period. Lower loan exposure to sovereign risk is associated with greater protection selling in CDS, the effect being weaker when sovereign risk is high. Bank and country risk variables are mostly not associated with protection selling. The findings are driven by the actions of a few non-dealer banks which sold CDS protection aggressively at the onset of the crisis, but started covering their positions at its height while simultaneously shifting their assets towards sovereign bonds and loans. Our findings underscore the importance of accounting for derivatives exposure in building a complete picture and understanding fully the economic drivers of the bank-sovereign nexus of risk.
    Keywords: Credit derivatives,Credit default swaps,Sovereign credit risk,Eurozone,Sovereign debt crisis,Depository Trust and Clearing Corporation (DTCC)
    JEL: G01 G15 G21 H63
    Date: 2018
  11. By: Aikman, David (Bank of England); Bridges, Jonathan (Bank of England); Kashyap, Anil (University of Chicargo Booth School of Business); Siergert, Caspar (Bank of England)
    Abstract: How well equipped are today’s macroprudential regimes to deal with a re-run of the factors that led to the global financial crisis? We argue that a large proportion of the fall in US GDP associated with the crisis can be explained by two factors: the fragility of financial sector — represented by the increase in leverage and reliance on short-term funding at non-bank financial intermediaries — and the build-up in indebtedness in the household sector. We describe and calibrate the policy interventions a macroprudential regulator would wish to make to address these vulnerabilities. And we compare and contrast how well placed two prominent macroprudential regulators — the US Financial Stability Oversight Council and the UK’s Financial Policy Committee — are to implement these policy actions.
    Keywords: Financial crises; macroprudential policy; leverage; short-term wholesale funding; credit crunch; household debt; aggregate demand externality; countercyclical capital buffer; loan to value ratio; loan to income ratio
    JEL: G01 G21 G23 G28
    Date: 2018–08–03
  12. By: Laura Alfaro (Harvard Business School); Enrique Moral-Benito (Bank of Spain); Manuel Garcia-Santana (Universitat Pompeu Fabra)
    Abstract: We consider the real effects of bank lending shocks and how they permeate the economy through buyer-supplier linkages. We combine administrative data on all firms in Spain with a matched bank-firm-loan dataset incorporating information on the universe of corporate loans for 2003-2013. Using methods from the matched employer-employee literature for handling large data sets, we identify bank-specific shocks for each year in our sample. Combining the Spanish Input-Output structure and firm-specific measures of upstream and downstream exposure, we construct firm-specific exogenous credit supply shocks and estimate their direct and indirect effects on real activity. Credit supply shocks have sizable direct and downstream propagation effects on investment and output throughout the period but no significant impact on employment during the expansion period. Downstream propagation effects are quantitatively larger in magnitude than direct effects. The results corroborate the importance of network effects in quantifying the real effects of credit shocks and show that real effects vary during booms and busts.
    Date: 2018
  13. By: Tischer, Johannes
    Abstract: This paper sheds light on the effect of quantitative easing (QE) on bank lending. Using data on German banks for 2014-2016, I show that QE encourages banks to rebalance from securities to loans. For identification, I use bond redemptions as exogenous variation in banks' need to rebalance their portfolio and hence their exposure to QE. I find that more exposed banks increase their loan growth during QE relative to other banks. The growth differential is larger when bond market yields decrease stronger than loan market yields and for banks with equity constraints. These results imply that QE can affect bank lending even if banks do not hold assets purchased under the QE program, by increasing incentives to invest in higher-yield assets.
    Keywords: quantitative easing,bank lending,proprietary trading,monetary transmission
    JEL: E51 E58 G11 G21
    Date: 2018
  14. By: Tanaka, Misa (Bank of England); Vourdas, John (European Central Bank)
    Abstract: This paper develops a model to analyse the optimal ex-ante capital and total loss absorbing capacity (TLAC) requirements, and the ex-post resolution policy of banks. Banks in our model are subject to two types of moral hazard: i) ex-ante, they have the incentive to shirk on project monitoring, thus increasing the risk of failure, and ii) ex-post, poorly capitalised banks have the incentive to engage in asset substitution by ‘gambling for resurrection’. Ex-ante moral hazard can be eliminated by ensuring that banks have sufficient capital and uninsured ‘bail-inable’ debt, while ex-post moral hazard is mitigated by triggering resolution when the minimum capital requirement is breached. We argue that optimal regulation consists of a high TLAC requirement and high capital buffer. Our analysis also suggests that higher system-wide risk would call for a higher capital buffer, but TLAC could be lowered if it does not jeopardise the credibility of bail-in itself.
    Keywords: Bank capital; bank capital regulation; total loss absorbing capacity; bank resolution
    JEL: G21 G28 G33 G38
    Date: 2018–07–27
  15. By: Segura, Anatoli; Vicente, Sergio
    Abstract: This paper characterizes the optimal banking union with endogenous participation in a two-country economy in which domestic bank failures may be contemporaneous to sovereign crises, giving rise to risk-sharing motives to mutualize the funding of bail-outs. Raising public funds to conduct a bail-out entails the deadweight loss of distortionary taxation. Bank bail-ins create disruption costs in the economy. When country asymmetry is large, resolution policies exhibit reduced contributions to the public backstop and forbearance in early bank intervention in the fiscally stronger country, facilitating bail-outs in this country. JEL Classification: G01, G21, G28
    Keywords: bail-in, bailout, banking union, mechanism design, public backstop
    Date: 2018–08
  16. By: Müller, Carola
    Abstract: I develop a theoretical model to investigate the effect of simultaneous regulation with a leverage ratio and a risk-weighted ratio on banks' risk taking and banking market structure. I extend a portfolio choice model by adding heterogeneity in productivity among banks. Regulators face a trade-off between the efficient allocation of resources and financial stability. In an oligopolistic market, risk-weighted requirements incentivise banks with high productivity to lend to low-risk firms. When a leverage ratio is introduced, these banks lose market shares to less productive competitors and react with risk-shifting into high-risk loans. While average productivity in the low-risk market falls, market shares in the high-risk market are dispersed across new entrants with high as well as low productivity.
    Keywords: banking regulation,heterogeneous banks,banking competition,capital requirements,leverage ratio,Basel III
    JEL: G11 G21 G28
    Date: 2018
  17. By: Fabio Panetta (Bank of Italy); Alberto Franco Pozzolo (University of Molise)
    Abstract: We investigate the causes and consequences of securitisations using a large data set of banks from over 100 world countries between 1991 and 2007, when the financial crisis caused the market to collapse. Our results show that banks were more likely to securitise their assets when they faced binding capital requirements and when the direct and indirect costs of these operations were lower (e.g., administrative expenses or the loss implied in the sale of opaque assets in an imperfect information environment). We also find evidence that banks securitised their assets to contain credit risk and reduce the exposure to liquidity shocks. The ex-post effects of securitisations are consistent with these ex-ante determinants. After the securitisation, banks improved their capital ratios and did not increase their riskiness. More important, they increased their credit supply. These results suggest that if properly used, these techniques can provide additional flexibility in managing banks’ activities and risk, and can foster credit supply. But, as the crisis has made well clear, provisions must be taken to avoid that some banks may use these new techniques in a way that increases individual and especially systemic risk.
    Keywords: credit risk transfer, securitisation, financial derivatives
    JEL: G21 G32
    Date: 2018–07
  18. By: Pfeifer, Lukáš; Hodula, Martin
    Abstract: Over the last few years, national macroprudential authorities have developed different strategies for setting the countercyclical capital buffer (CCyB) rate in the banking sector. The existing approaches are based on various indicators used to identify the current phase of the financial cycle. However, to our knowledge, there is no approach that directly takes into consideration banks’ prudential behavior over the financial cycle as well as cyclical risks in the banking sector. In this paper, we propose a new profit-to-provisioning approach that can be used in the macroprudential decision-making process. We construct a new set of indicators that largely capture the risk of cyclicality of profit and loan loss provisions. We argue that banks should conserve a portion of the cyclically overestimated profit (non-materialized expected loss) in their capital during a financial boom. We evaluate the performance of our newly proposed indicators using two econometric exercises. Overall, they exhibit good statistical properties, are relevant to the CCyB decision-making process, and may contribute to a more precise assessment of both systemic risk accumulation and risk materialization. We believe that the relevance of the profit-to-provisioning approach and the related set of newly proposed indicators increases under IFRS 9. JEL Classification: E58, G21, G28
    Keywords: banking prudence indicators, countercyclical capital buffer, financial stability, macroprudential policy, profit-to-provisioning approach
    Date: 2018–08
  19. By: Christopher Foote (Federal Reserve Bank of Boston); Jaromir Nosal (Boston College); Lara Loewenstein (Federal Reserve Bank of Boston); Paul Willen (Federal Reserve Bank of Boston)
    Abstract: We study the impact on debt and default in the Great Recession of mortgage investors - individuals holding mortgages on multiple properties. These individuals have been identified by prior studies (Albanesi, DeGiorgi, Nosal (2017)) to have been a major driver of the aggregate behavior of debt and default. We use the Equifax Consumer Credit Panel to shed light on the mechanism behind that contribution in terms of the relation between the behavior of mortgage investors and the subsequent rise and fall in debt and explosion of defaults. To that end, we explore detailed geographical location information included in the CCP, as well as HMDA and CoreLogic. Some of the questions we address in the paper are: Was mortgage investor activity much more pronounced in states with liberal recourse regulations? Did increases in house prices lead or lag the rise of investor activity? Did mortgage investors foreclose on all their properties or just the investment properties - so was their default purely strategic? Was there significant misreporting of the status of the purchased investment property as non-investment -- and hence were these loans mispriced? Finally, do we see a rise in mortgage investor activity post-recession now that house prices rebounded to new high levels?
    Date: 2018
  20. By: Alexei Tchistyi (University of Illinois)
    Abstract: We develop a tractable general equilibrium framework of housing and mortgage markets with aggregate and idiosyncratic risks, costly liquidity and strategic defaults, empirically relevant informational asymmetries, and endogenous mortgage design. We show that adverse selection plays an important role in shaping the form of an equilibrium contract. If borrowers' homeownership values are known, the equilibrium state-contingent contract depends on both aggregate wages and house prices. However, when lenders cannot observe borrowers' homeownership values, the equilibrium contract only depends on house prices and takes the form of a home equity insurance mortgage (HEIM) that eliminates the strategic default option and insures the borrower's equity position. Interestingly, we show that widespread adoption of such loans has ambiguous effects on the homeownership rate and household welfare. In economies in which recessions are expected to be severe, the HEIM equilibrium Pareto dominates the equilibrium with fixed-rate mortgages. However, if economic downturns are not severe, HEIMs can lower the homeownership rate and make some marginal home buyers worse-o¤. We also note that adjustable-rate mortgages (ARMs) may share some benefits with HEIMs. Finally, we find that unrestricted competition in contract design among lenders may lead to a non-existence of equilibrium. This suggests that government-sponsored enterprises may stabilize mortgage markets by subsidizing certain lending contracts.
    Date: 2018
  21. By: David Berger (Northwestern University); Fabrice Tourre (Northwestern University); Konstantin Milbradt (Northwestern University)
    Abstract: We present an analytically tractable model of the mortgage-rate pass through and the cross-section of coupon rates in the economy. Competitive banks offer downward adjustable fixed-rate risk-free mortgages (“refinancing”) with current mortgage rate m(r) where r is the prevailing short-rate the bank uses to finance the mortgage. We present two versions: (1) Rational attentive investors facing small adjustment cost refinance as soon as the current mortgage rate is below their individual mortgage rate; (2) rational inattentive consumers facing small adjustment cost refinance as soon as they become aware of the current mortgage rate being below their individual mortgage rate. We analytically derive m(r) for general processes and the ergodic distribution of mortgage rates in the economy. The mortgage rate function m(r) is increasing and additionally concave. Thus, monetary policy has a differential impact on the housing market depending on the level of the interest rate r. Further, the mortgage pass-through is affected by default risk, financial literacy, and the competitiveness of the banking industry.
    Date: 2018

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