nep-ban New Economics Papers
on Banking
Issue of 2020‒12‒21
27 papers chosen by
Christian Calmès, Université du Québec en Outaouais

  1. Separating retail and investment banking: evidence from the UK By Chavaz, Matthieu; Elliott, David
  2. Financial Integration and the Co-Movement of Economic Activity: Evidence from U.S. States By ; Martin R. Goetz
  3. Does Capital-Based Regulation Affect Bank Pricing Policy? By Dominika Ehrenbergerova; Martin Hodula; Zuzana Rakovska
  4. Financial technologies and the effectiveness of monetary policy transmission By Hasan, Iftekhar; Kwak, Boreum; Li, Xiang
  5. Impact of Alternative Funding Instruments to Improve Access to Finance in SMEs: Evidence from Vietnam By Jayasooriya, Sujith
  6. Open Banking: Credit Market Competition When Borrowers Own the Data By Zhiguo He; Jing Huang; Jidong Zhou
  7. Hampered interest rate pass-through: A supply side story? By Heckmann, Lotta; Moertel, Julia
  8. Liquidity management, fire sale and liquidity crises in banking: the role of leverage By Gomez, Fabiana; Vo, Quynh-Anh
  9. How far can we go? Determining the optimal loan size in progressive lending By Nahla Dhib; Arvind Ashta
  10. Collective Moral Hazard and the Interbank Market By ; Joseph E. Stiglitz
  11. Georgia; Technical Assistance Report—Strengthening Regulation, Supervision, and Oversight of Micro Lending Institutions By International Monetary Fund
  12. Liquidity Risk at Large U.S. Banks By Laurence M. Ball
  13. Does regulatory and supervisory independence affect financial stability? By Fraccaroli, Nicolò; Sowerbutts, Rhiannon; Whitworth, Andrew
  14. Financial Sector Transparency, Financial Crises and Market Power: A Cross-Country Evidence By Baah A. Kusi; Elikplimi K. Agbloyor; Agyapomaa Gyeke-Dako; Simplice A. Asongu
  15. The Financial Accelerator in the Euro Area: New Evidence Using a Mixture VAR Model By Hamza Bennani; Matthias Neuenkirch
  16. Bank Capital and Real GDP Growth By Nina Boyarchenko; Domenico Giannone; Anna Kovner
  17. Issuance of Wealth Management Products and Expected Yields; A Shadow Banking Perspective By Shah, Syed Mehmood Raza; Fu, Qiang; Dawood, Muhammad; Ishfaq, Muhammad
  18. Explainable AI for Interpretable Credit Scoring By Lara Marie Demajo; Vince Vella; Alexiei Dingli
  19. Essays on competition, regulation and innovation in the banking industry By Capera Romero, Laura
  20. Going-Concern Debt of Financial Intermediaries By Yueran Ma; José A. Scheinkman
  21. Banks, debts and workers By Oliver Denk; Priscilla Fialho
  22. Bank credit and short-run economic growth: a dynamic threshold panel model for ASEAN countries By Sy-Hoa Ho; Jamel Saadaoui
  23. Safe Payments By Jonathan Chiu; Mohammad Davoodalhosseini; Janet Hua Jiang; Yu Zhu
  24. Zombies at Large? Corporate Debt Overhang and the Macroeconomy By Òscar Jordà; Martin Kornejew; Moritz Schularick; Alan M. Taylor
  25. Information network modeling for U.S. banking systemic risk By Nicola, Giancarlo; Cerchiello, Paola; Aste, Tomaso
  26. Consumer Credit With Over-Optimistic Borrowers By Florian Exler; Igor Livshits; James MacGee; Michèle Tertilt
  27. Crisis Risk Prediction with Concavity from Polymodel By Raphaël Douady; Yao Kuang

  1. By: Chavaz, Matthieu (Bank of England); Elliott, David (Bank of England)
    Abstract: The idea of separating retail and investment banking remains controversial. Exploiting the introduction of UK ring-fencing requirements in 2019, we document novel implications of such separation for credit and liquidity supply, competition, and risk-taking via a funding structure channel. By preventing conglomerates from using retail deposits to fund investment banking activities, this separation leads conglomerates to rebalance their activities towards domestic mortgage lending and away from supplying credit lines and underwriting services to large corporates. By redirecting the benefits of deposit funding towards the retail market, this rebalancing reduces the cost of credit for households, without eroding lending standards. However the rebalancing also increases mortgage market concentration and risk-taking by smaller banks via indirect competition effects.
    Keywords: Bank regulation; Universal banking; Glass-Steagall; Mortgages; Syndicated lending; Competition
    JEL: G21 G24 G28
    Date: 2020–11–27
  2. By: ; Martin R. Goetz
    Abstract: We analyze the effect of the geographic expansion of banks across U.S. states on the comovement of economic activity between states. Exploiting the removal of interstate banking restrictions to construct time-varying instrumental variables at the state-pair level, we find that bilateral banking integration increases output co-movement between states. The effect of financial integration depends on the nature of the idiosyncratic shocks faced by states and is stronger for more financially dependent industries. Finally, we show that integration (1) increases the similarity of bank lending fluctuations between states and (2) contributes to the transmission of deposit shocks across states.
    Keywords: Banking integration; Synchronization; Financial deregulation; Business cycles
    JEL: E32 F36 F44 G21
    Date: 2020–11–20
  3. By: Dominika Ehrenbergerova; Martin Hodula; Zuzana Rakovska
    Abstract: This paper tests whether a series of changes to capital requirements transmitted to a change to banks' pricing policy. We compile a rich bank-level supervisory dataset covering the banking sector in the Czech Republic over the period 2004-2019. We estimate that the changes to the overall capital requirements did not force banks to alter their pricing policy. The impact on bank interest margins and loan rates is found to lie in a narrow range around zero irrespective of loan category. Our estimates allow us to rule out effects even for less-capitalised banks and small banks. The results obtained contradict estimates from other studies reporting significant transmission of capital regulation to lending rates and interest margins. We therefore engage in a deeper discussion of why this might be the case. Our estimates may be used in the ongoing discussion of the benefits and costs of capital-based regulation in banking.
    Keywords: Bank pricing policy, capital requirements, interest margins, loan rates
    JEL: E58 G21 G28
    Date: 2020–11
  4. By: Hasan, Iftekhar; Kwak, Boreum; Li, Xiang
    Abstract: This study investigates whether and how financial technologies (FinTech) influencethe effectiveness of monetary policy transmission. We examine regional-level FinTech adoption and use an interacted panel vector autoregression model to explore how the effects of monetary policy shocks change with FinTech adoption. The re-sults indicate that FinTech adoption generally enhances monetary policy transmis-sion to real GDP, bank loans, and housing prices, while the evidence of transmission to consumer prices is mixed. A subcategorical analysis shows that the enhanced effectiveness is the most pronounced in the adoption of FinTech payment, compared to that of insurance and credit.
    Keywords: monetary policy,financial technology,interacted panel VAR
    JEL: C32 E52 G21 G23
    Date: 2020
  5. By: Jayasooriya, Sujith
    Abstract: Access to finance in the digital era is innovative with the different alternative funding approaches. In emerging markets, digital innovation of the financial sources is not limited to the own capital or borrowing from bank or credit institutions but numerous paths of financing. The purpose of the research is to recognize the alternative and innovative funding tools including borrowed from bank/credit institution, borrowed against interest from other sources, and borrowed from other sources without interest, peer-to-peer (P2P) lending -borrowed from friends and relatives without interest-, and stocks issued. The data was obtained from the survey of 2647 enterprises conducted by the UNU WIDER 2015 in Vietnam. The probit model approach for access to finance is used to analyze the impact of alternative funding tools for enterprises. The results predict the use of alternative funding tools for startup capital and investment financing of the firms separately. The results revealed that sources of start-up capital from founders’ own money, loans from friends and acquaintances, finance/investments from other enterprises, domestic bank loan, and Informal credit association (money lenders, informal bank, pawnshop) are positively and significantly affect the access to finance, while loans from family members, business associations, and international bank loans are not significant. Meanwhile, own funding, bank/credit institution, borrowed against interest from other sources, and borrowed from other sources without interest, borrowed from friends and relatives without interest have significantly affected the access to finance. In a summary, the alternative funding tools are an important source for financing SMEs in Vietnam.
    Keywords: Alternative funding, P2P lending, SMEs, Access to Finance
    JEL: L11 L22 L25 M13
    Date: 2020–11–27
  6. By: Zhiguo He; Jing Huang; Jidong Zhou
    Abstract: Open banking facilitates data sharing consented by customers who generate the data, with a regulatory goal of promoting competition between traditional banks and challenger fintech entrants. We study lending market competition when sharing banks' customer data enables better borrower screening or targeting by fintech lenders. Open banking could make the entire financial industry better off yet leave all borrowers worse off, even if borrowers could choose whether to share their data. We highlight the importance of equilibrium credit quality inference from borrowers' endogenous sign-up decisions. When data sharing triggers privacy concerns by facilitating exploitative targeted loans, the equilibrium sign-up population can grow with the degree of privacy concerns.
    JEL: D18 G21 L13 L15 L51
    Date: 2020–11
  7. By: Heckmann, Lotta; Moertel, Julia
    Abstract: This paper shows that the supply side of credit is a major factor for the phenomenonof hampered interest rate pass-through in monopolistic banking markets. Our data,covering all 1,555 small and medium sized banks in Germany, provides a clear wayto partial out demand shocks; we are thus able to show that while market-powerbanks charge higher loan rates, they spare their borrowers a part of exogenousupward shifts in the yield curve and furthermore withhold a substantial part ofrising market rates from their depositors. Because high market-power banks inour sample are relatively more profitable, they seem to be able to insure theirrelationship-customers against adverse shocks.
    Keywords: interest rate pass-through,bank competition,credit supply
    JEL: E43 E51 E52 G21
    Date: 2020
  8. By: Gomez, Fabiana (University of Bristol); Vo, Quynh-Anh (Bank of England)
    Abstract: This paper proposes a positive theory of the link between banks’ capitalisation and their liquidity-risk taking as well as the severity of fire-sale problems and liquidity crises. In the basic framework of an individual bank’s decisions, we find that banks’ incentives to hold liquidity for precautionary reason are increasing with their capital. In a continuum-of-banks setting in which both precautionary and speculative motives of liquidity holdings are taken into account, we find that while the fire-sale discount is decreasing with the capitalisation of the banking system, the link between the latter and the severity of liquidity crises is not monotonic.
    Keywords: Leverage; Precautionary liquidity holdings; speculative liquidity holdings; wholesale debts; cash-In-the-market pricing
    JEL: D82 G21
    Date: 2020–11–27
  9. By: Nahla Dhib (Université Côte D'Azur, CNRS, LJAD (France)); Arvind Ashta
    Abstract: The microcredit literature indicates that progressive lending should reduce default rates but that it may lead to over-indebtedness. In this study, we show that progressive lending may be safe over a range of loan sizes, beyond which a rational borrower would indulge in a strategic default. This range of loan sizes may be dependent on borrower characteristics (risk-taking, self-confidence, productivity, interest rates, subsistence needs) as well as the Microfinance Institution's strategy. Many crowdfunding sites are using artificial intelligence to assess borrower risk through social ratings. We are arguing that production functions of the borrowers also need to be added.
    Date: 2020–11–12
  10. By: ; Joseph E. Stiglitz
    Abstract: The concentration of risk within financial system is considered to be a source of systemic instability. We propose a theory to explain the structure of the financial system and show how it alters the risk taking incentives of financial institutions. We build a model of portfolio choice and endogenous contracts in which the government optimally intervenes during crises. By issuing financial claims to other institutions, relatively risky institutions endogenously become large and interconnected. This structure enables institutions to share the risk of systemic crisis in a privately optimal way, but channels funds to relatively risky investments and creates incentives even for smaller institutions to take excessive risks. Constrained efficiency can be implemented with macroprudential regulation designed to limit the interconnectedness of risky institutions.
    Keywords: Systemic risk; Systemically important financial institutions; Interbank markets; Financial crises; Bailouts; Macroprudential supervision
    JEL: E61 G01 G18 G21 G28
    Date: 2020–12–02
  11. By: International Monetary Fund
    Abstract: In the past two years, the NBG has adopted a series of measures to strengthen nonbank sector financial regulation, supervision, and oversight.1 The MCM TA mission in 2017 provided recommendations along these lines, most of which have been implemented by the NBG. Currently, the nonbank sector consists of Micro Financial Institutions (MFIs) and Loan Issuing Entities (LIEs). In reforming the sector, the NBG has, among others: (i) amended laws and issued new and revised regulations on registration, capital, and liquidity requirements for MFIs; (ii) significantly expanded supervisory powers and authorities and increased supervisory resources for the nonbank sector; (iii) registered 200 LIEs; and (iv) put in place consumer protection and responsibility lending rules. These new measures have helped to enhance the resilience of the nonbank sector, weed out those that are non-viable, and improved the reputation of the MFI brand.
    Keywords: Loans;Commercial banks;Capital adequacy requirements;Deposit insurance;Banking;ISCR,CR,NBG staff,loan portfolio,NBG nonbank supervision department,NBG supervisor,bank status,MFI representative,supervision framework
    Date: 2020–09–03
  12. By: Laurence M. Ball
    Abstract: This paper studies liquidity risk at the six largest U.S. banks. The starting point is the stress tests performed under the Liquidity Coverage Ratio (LCR) regulation, which compare a bank’s liquid assets to its loss of cash in a stress scenario that regulators say is based on the 2008 financial crisis. These tests find that all of the large banks could endure a liquidity crisis for 30 days without running out of cash. This paper argues, however, that some of the assumptions in the LCR stress scenario are not pessimistic enough to capture what could happen in a crisis like 2008. The paper then proposes changes in the dubious assumptions and performs revised stress tests. For 2019 Q4, the revised tests suggest it is unlikely that any of the six banks would survive a liquidity crisis for 30 days. This negative finding is most clear-cut for Goldman Sachs and Morgan Stanley.
    JEL: G21 G24 G28
    Date: 2020–11
  13. By: Fraccaroli, Nicolò (W.R. Rhodes Center for International Economics and Finance at the Watson Institute for International and Public Affairs, Brown University); Sowerbutts, Rhiannon (Bank of England); Whitworth, Andrew (Bank of England)
    Abstract: Since the crisis financial regulators and supervisors have been given increased independence from political bodies. But there is no clear evidence of the benefits of these reforms on the stability of the banking sector. This paper fills that void, introducing a new dataset of reforms to regulatory and supervisory independence for 43 countries from 1999-2019. We combine this index with bank-level data to investigate the impact of reforms in independence on financial stability. We find that reforms that bring greater regulatory and supervisory independence are associated with lower non-performing loans in banks’ balance sheets. In addition, we provide evidence that these improvements do not come at the cost of bank efficiency and profitability. Overall, our results show that increasing the independence of regulators and supervisors is beneficial for financial stability.
    Keywords: Agency independence; financial stability; banking supervision; banking regulation; regulatory agencies
    JEL: E58 G28
    Date: 2020–11–27
  14. By: Baah A. Kusi (University of Ghana Business School, Ghana); Elikplimi K. Agbloyor (University of Ghana Business School, Ghana); Agyapomaa Gyeke-Dako (University of Ghana Business School, Ghana); Simplice A. Asongu (Yaoundé, Cameroon)
    Abstract: The study investigates how financial sector transparency moderates the influence of financial crises on bank market power across seventy-five economies between 2004 and 2014. Employing two-step dynamic system generalized method of moments the study shows that while public sector-led financial sector transparency reduces bank market power, private sector-led financial sector transparency promotes bank market power given that private sector-led transparency gives financial cost advantage to financially sound banks to solidify the market power and dominance. Similarly, while financial crises reduce the market power of banks implying that during financial crises banks lose their market power, financial sector transparency promotes the negative effect of financial crises on bank market power. This implies that during financial crises, financial sector transparency whether enforced through private or public sector, boosts the weakening effect of financial crises on bank market power. These findings imply that regulators can rely on financial transparency to tame bank market power to enhance banking competitiveness. The findings and results are consistent even when country, time and continental effects are controlled for.
    Keywords: Market Power; Bank; Financial Sector Transparency; Private Sector; Public Sector
    Date: 2020–01
  15. By: Hamza Bennani; Matthias Neuenkirch
    Abstract: We estimate a logit mixture vector autoregressive model describing monetary policy transmission in the euro area over the period 2003Q1–2019Q4 with a specialemphasis on credit conditions. With the help of this model, monetary policy trans-mission can be described as mixture of two states (e.g., a normal state and a crisisstate), using an underlying logit model determining the relative weight of thesestates over time. We show that shocks to the credit spread and shocks to creditstandards directly lead to a reduction of real GDP growth, whereas shocks to thequantity of credit are less important in explaining growth fluctuations. Creditstandards and the credit spread are also the key determinants of the underlyingstate of the economy in the logit submodel. Together with a more pronouncedtransmission of monetary policy shocks in the crisis state, this provides further ev-idence for a financial accelerator in the euro area. Finally, the detrimental effect ofcredit conditions is also reflected in the labor market.
    Keywords: Credit growth, credit spread, credit standards, euro area, financial accelerator, mixture VAR, monetary policy transmission.
    JEL: E44 E52 E58 G21
    Date: 2020
  16. By: Nina Boyarchenko; Domenico Giannone; Anna Kovner
    Abstract: We study the relationship between bank capital ratios and the distribution of future real GDP growth. Growth in the aggregate bank capital ratio corresponds to a smaller left tail of GDP—smaller crisis probability—but at the cost of a smaller right tail of growth outcomes—smaller probability of exuberant growth. This trade-off persists at horizons of up to eight quarters, highlighting the long-range consequences of changes in bank capital. We show that the predictive information in bank capital ratio growth is over and above that contained in real credit growth, suggesting importance for bank capital beyond supplying credit to the nonfinancial sector. Our results suggest that coordination between macroprudential and monetary policy is crucial for supporting stable growth.
    Keywords: capital ratios; growth-at-risk; quantile regressions; threshold regressions
    JEL: E32 G21 C22
    Date: 2020–11–01
  17. By: Shah, Syed Mehmood Raza; Fu, Qiang; Dawood, Muhammad; Ishfaq, Muhammad
    Abstract: In the last decade, shadow banking in China has expanded rapidly, driven predominantly by banking regulations and credit restrictions on specific industries. Wealth management products are considered the largest contributors to the overall shadow banking sector in China. The majority of these products are off the balance sheet and offer much higher yields than conventional deposit rates. This study aims to examine how commercial banks, more specifically small and medium-sized banks (SMBs), utilize wealth management products to offer higher yields on new products. This study comprises the top 30 Chinese banks from the first quarter of 2013 to the last quarter of 2019. A fixed-effects approach was adopted by implementing the panel corrected standard errors (PCSE) and Driscoll and Kraay standard errors (DKSE) models. This study found that for SMBs, the issuance of WMPs has a positive and significant impact on the yields of new products, but there is no such significant relationship exists for large four banks.
    Keywords: Wealth Management Products, Shadow Banking, Yields, Regulations, Panel data
    JEL: C33 G21 G28 G32
    Date: 2020–11–13
  18. By: Lara Marie Demajo; Vince Vella; Alexiei Dingli
    Abstract: With the ever-growing achievements in Artificial Intelligence (AI) and the recent boosted enthusiasm in Financial Technology (FinTech), applications such as credit scoring have gained substantial academic interest. Credit scoring helps financial experts make better decisions regarding whether or not to accept a loan application, such that loans with a high probability of default are not accepted. Apart from the noisy and highly imbalanced data challenges faced by such credit scoring models, recent regulations such as the `right to explanation' introduced by the General Data Protection Regulation (GDPR) and the Equal Credit Opportunity Act (ECOA) have added the need for model interpretability to ensure that algorithmic decisions are understandable and coherent. An interesting concept that has been recently introduced is eXplainable AI (XAI), which focuses on making black-box models more interpretable. In this work, we present a credit scoring model that is both accurate and interpretable. For classification, state-of-the-art performance on the Home Equity Line of Credit (HELOC) and Lending Club (LC) Datasets is achieved using the Extreme Gradient Boosting (XGBoost) model. The model is then further enhanced with a 360-degree explanation framework, which provides different explanations (i.e. global, local feature-based and local instance-based) that are required by different people in different situations. Evaluation through the use of functionallygrounded, application-grounded and human-grounded analysis show that the explanations provided are simple, consistent as well as satisfy the six predetermined hypotheses testing for correctness, effectiveness, easy understanding, detail sufficiency and trustworthiness.
    Date: 2020–12
  19. By: Capera Romero, Laura (Tilburg University, School of Economics and Management)
    Date: 2020
  20. By: Yueran Ma; José A. Scheinkman
    Abstract: We study asset and debt characteristics of US bank holding companies. We show that financial institutions, especially large institutions, are not just about holding discrete assets. Services and going-concern values are important, and capital market debt against going-concern values accounts for 10% to 15% of total assets, comparable to the volume of capital market debt against discrete assets. We find that financial institutions’ debt against going-concern values has weak monitoring, relative to similar debt among non-financial firms. We argue that weak monitoring prevails because creditors cannot easily punish or restructure these institutions should they violate covenants, which limits covenants’ usefulness.
    JEL: G21 G28 G32
    Date: 2020–11
  21. By: Oliver Denk; Priscilla Fialho
    Abstract: Private debt owed to banks and other financial institutions has been at unprecedented high levels. This paper studies the role of these high levels of debt for workers, based on an assembled micro-dataset that harmonises household surveys from 29 OECD countries. High debt is found to be associated with two bad outcomes for workers: weaker wage growth and an increased risk that they encounter a sharp fall in their wages. People who tend to be particularly affected are the low-skilled, individuals with unstable employment paths and financially vulnerable households. Strong bank supervision and macroprudential measures that aim to avoid credit overexpansion are two policies that can improve the links of private debt with labour income growth and risk. Overall, the evidence in this paper points to finance as one factor behind wage stagnation and the social divisions in today’s labour markets.
    Keywords: credit, finance, income growth, income risk, labour earnings
    JEL: E24 G21 G28 J31
    Date: 2020–12–15
  22. By: Sy-Hoa Ho (Institute of Research and Development, Duy-Tan University, TIMAS - Thang-Long University); Jamel Saadaoui (BETA - Bureau d'Économie Théorique et Appliquée - INRA - Institut National de la Recherche Agronomique - UNISTRA - Université de Strasbourg - UL - Université de Lorraine - CNRS - Centre National de la Recherche Scientifique)
    Abstract: We investigate short-run nonlinear impacts of bank credit on economic growth in ASEAN countries. We find an inverted L-shaped relationship and a statistically significant threshold of 96.5%. Positive effects of bank credit expansion on short-run economic growth fade away after this threshold.
    Keywords: Bank credit,Economic growth,Dynamic threshold estimation,ASEAN
    Date: 2020–11–16
  23. By: Jonathan Chiu; Mohammad Davoodalhosseini; Janet Hua Jiang; Yu Zhu
    Abstract: We use a simple model to study whether private payment systems based on bank deposits can provide the optimal level of safety. In the model, bank deposits backed by projects are subject to default risk that can be mitigated by a depositor's ex ante and ex post monitoring. Safe payment instruments issued by a narrow bank can also be used as a back-up payment system when the risky bank fails. Private adoption of safe payment instruments is generally not socially optimal when buyers do not fully internalize the externalities of their adoption decision on sellers, or when the provision of deposit insurance distorts their adoption incentives. Using this framework, we discuss the optimal subsidy policy conditional on the level of deposit insurance.
    Keywords: Central bank research; Digital currencies and fintech; Financial institutions; Payment clearing and settlement systems
    JEL: E42 E50 G21
    Date: 2020–12
  24. By: Òscar Jordà; Martin Kornejew; Moritz Schularick; Alan M. Taylor
    Abstract: With business leverage at record levels, the effects of corporate debt overhang on growth and investment have become a prominent concern. In this paper, we study the effects of corporate debt overhang based on long-run cross-country data covering the near-universe of modern business cycles. We show that business credit booms typically do not leave a lasting imprint on the macroeconomy. Quantile local projections indicate that business credit booms do not affect the economy’s tail risks either. Yet in line with theory, we find that the economic costs of corporate debt booms rise when inefficient debt restructuring and liquidation impede the resolution of corporate financial distress and make it more likely that corporate zombies creep along.
    Keywords: corporate debt; business cycles; local projections
    JEL: E44 G32 G33 N20
    Date: 2020–12–01
  25. By: Nicola, Giancarlo; Cerchiello, Paola; Aste, Tomaso
    Abstract: In this work we investigate whether information theory measures like mutual information and transfer entropy, extracted from a bank network, Granger cause financial stress indexes like LIBOR-OIS (London Interbank Offered Rate-Overnight Index Swap) spread, STLFSI (St. Louis Fed Financial Stress Index) and USD/CHF (USA Dollar/Swiss Franc) exchange rate. The information theory measures are extracted from a Gaussian Graphical Model constructed from daily stock time series of the top 74 listed US banks. The graphical model is calculated with a recently developed algorithm (LoGo) which provides very fast inference model that allows us to update the graphical model each market day. We therefore can generate daily time series of mutual information and transfer entropy for each bank of the network. The Granger causality between the bank related measures and the financial stress indexes is investigated with both standard Granger-causality and Partial Granger-causality conditioned on control measures representative of the general economy conditions.
    Keywords: financial stress; granger causality; graphical models
    JEL: F3 G3
    Date: 2020–11–23
  26. By: Florian Exler; Igor Livshits; James MacGee; Michèle Tertilt
    Abstract: There is active debate over whether borrowers’ cognitive biases create a need for regulation to limit the misuse of credit. To tackle this question, we incorporate overoptimistic borrowers into an incomplete markets model with consumer bankruptcy. Lenders price loans, forming beliefs—type scores—about borrowers’ types. Since over-optimistic borrowers face worse income risk but incorrectly believe they are rational, both types behave identically. This gives rise to a tractable theory of type scoring as lenders cannot screen borrower types. Since rationals default less often, the partial pooling of borrowers generates cross-subsidization whereby overoptimists face lower than actuarially fair interest rates. Over-optimists make financial mistakes: they borrow too much and default too late. We calibrate the model to the US and quantitatively evaluate several policies to address these frictions: reducing the cost of default, increasing borrowing costs, imposing debt limits, and providing financial literacy education. While some policies lower debt and filings, they do not reduce overborrowing. Financial literacy education can eliminate financial mistakes, but it also reduces behavioral borrowers’ welfare by ending crosssubsidization. Score-dependent borrowing limits can reduce financial mistakes but lower welfare.
    Keywords: Consumer Credit, Over-Optimism, Financial Mistakes, Bankruptcy, Financial Literacy, Financial Regulation, Type Score, Cross-Subsidization
    JEL: E21 E49 G18 K35
    Date: 2020–11
  27. By: Raphaël Douady (CES - Centre d'économie de la Sorbonne - UP1 - Université Panthéon-Sorbonne - CNRS - Centre National de la Recherche Scientifique); Yao Kuang
    Abstract: Financial crises is an important research topic because of their impact on the economy, the businesses and the populations. However, prior research tend to show systemic risk measures which are reactive, in the sense that risk surges after the crisis starts. Few of them succeed in predicting financial crises in advance. In this paper, we first introduce a toy model based on a dynamic regime switching process producing normal mixture distributions. We observe that the relative concavity of various indices increases before a crisis. We use this stylized fact to introduce a measure of concavity from nonlinear Polymodel, as a crisis risk indicator, and test it against known crises. We validate the indicator by using it for a trading strategy that holds long or short positions on S&P 500, depending on the indicator value.
    Keywords: crisis risk,financial crisis,concavity,Polymodel,trading strategy
    Date: 2020–11–22

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