nep-ban New Economics Papers
on Banking
Issue of 2021‒07‒19
twenty-two papers chosen by
Christian Calmès, Université du Québec en Outaouais

  1. Counterparty Choice, Bank Interconnectedness, and Systemic Risk By Andrew Ellul; Dasol Kim
  2. Bank earnings management using loan loss provisions: comparing the UK, France, South Africa and Egypt By Ozili, Peterson Kitakogelu
  3. Big 4 auditors, bank earnings management and financial crisis in Africa By Ozili, Peterson Kitakogelu
  4. The impact of Covid-19 on productivity By Stephen Millard,; Margarita Rubio; Alexandra Varadi
  5. Basel III in Nigeria: making it work By Ozili, Peterson K
  6. State-Owned Commercial Banks By Ugo Panizza
  7. Shareholder Liability and Bank Failure By Felipe Aldunate; Dirk Jenter; Arthur Korteweg; Peter Koudijs
  8. The carrot and the stick: Bank bailouts and the disciplining role of board appointments By Mücke, Christian; Pelizzon, Loriana; Pezone, Vincenzo; Thakor, Anjan V.
  9. The Effects of Usury Ceilings on Consumers Welfare: Evidence from the Microcredit Market in Colombia By Laura Marcela Capera Romero
  10. How to Assess the Benefits of Nonperforming Loan Disposal in Sub-Saharan Africa Using a Simple Analytical Framework By Luc Eyraud; Irina Bunda; Zhangrui Wang
  11. Banking and Inside Money: Revisiting the Efficiency of Deposit Contracts By David Rivero; Hugo Rodríguez Mendizábal
  12. Customer Perceived Value in The Banking Sectors- An Application of Holbrook Model By ULLAH, NAZIM
  13. Lending Standards and Borrowing Premia in Unsecured Credit Markets By Kyle Dempsey; Felicia Ionescu
  14. Unconventional Credit Policy in an Economy under Zero Lower Bound By Jorge Pozo; Youel Rojas
  15. COVID-19, Credit Risk and Macro Fundamentals By Anna Dubinova; Andre Lucas; Sean Telg
  16. Our absurd fractional reserve bank system. By Musgrave, Ralph S.
  17. Tailoring Regulations By Rebecca Reubenstein; Asani Sarkar
  18. Is Macroprudential Policy Driving Savings? By André Teixeira; Zoë Venter
  19. Analysis of Banking Risk, Good Corporate Governance, Capital and Earning Influences on the Indonesia’s Commercial Bank Performances By Subhan, M. Nuruddin
  20. Two Stochastic Control Problems In Capital Structure and Portfolio Choice By Shan Huang
  21. Performance Analysis of Mobile Banking During the COVID-19 Pandemic Period Comparing with the Pre-pandemic Period of Covid-19: An Empirical Study on Bangladesh By Md. Ruhul Amin
  22. Trade credit contracts: Design and regulation By Florina Silaghi; Franck Moraux

  1. By: Andrew Ellul (Indiana University, Office of Financial Research, Centre for Economic Policy Research, Center for Studies of Economics and Finance, European Corporate Governance Institute); Dasol Kim (Office of Financial Research)
    Abstract: We provide evidence on how banks form network connections and endogenous risk-taking in their non-bank counterparty choices in the OTC derivatives markets. We use confidential regulatory data from the Capital Assessment and Stress Testing reports that provide counterparty-level data across a wide range of OTC markets for the most systemically important U.S. banks. We show that banks are more likely toeither establish or maintain a relationship, and increase their exposures within an existing relationship, with non-bank counterparties that are already heavily connected and exposed to other banks. Banks in such densely-connected networks are more likely to connect with riskier counterparties for their most material exposures. The effects are strongest in the case of (non-bank) financial counterparties. These findings suggest moral hazard behavior in counterparty choices. Finally, we demonstrate that these exposures are strongly linked to systemic risk. Overall, the results suggest a network formation process that amplifies risk propagation through non-bank linkages in opaque financial markets.
    Keywords: counterparty risk, financial networks, bank interconnectedness, over-the-counter markets, derivatives
    Date: 2021–07–12
  2. By: Ozili, Peterson Kitakogelu
    Abstract: This paper investigates bank earnings management using loan loss provision (LLP). The paper examines income smoothing which is a type of earnings management. It compares the income smoothing behaviour of banks in the UK, France, South Africa and Egypt. The findings show that bank income smoothing is present in the UK and Egypt, and absent in France and South Africa during the period examined. Banks in Egypt used LLPs to smooth income before the global financial crisis. Meanwhile, bank income smoothing is pronounced in France during and after the financial crisis but is absent in the pre-crisis period. Also, bank income smoothing is reduced in countries that (i) have strict banking supervision, (ii) adopt common law such as the United Kingdom, and (iii) adopt civil law such as France and Egypt. Bank earnings management is also greater in countries that adopt a mixed legal system such as South Africa, and in countries that adopt IFRS accounting standards.
    Keywords: banks, earnings management, loan loss provisions, income smoothing
    JEL: G01 G20 G21 G28 G29 M00 M40 M41 M42 M48 M49 O55 O57
    Date: 2021
  3. By: Ozili, Peterson Kitakogelu
    Abstract: This paper examines whether African banks audited by a Big 4 auditor use loan loss provisions for earnings management purposes before, during and after the global financial crisis. It focuses on income smoothing as a type of earnings management. Using bank data from 21 African countries from 2002 to 2014, the results show that African banks audited by a Big 4 auditor use loan loss provisions to smooth income and the incentive to smooth income is greater during recessionary periods. Also, African banks audited by a Big 4 auditor use income smoothing to lower high earnings during the financial crisis and in the pre-financial crisis period but not in the post-financial crisis period.
    Keywords: Loan loss provision, banks, audit quality, Big 4 auditor, income smoothing, financial crisis, earnings management, economic cycles, recession, earnings smoothing
    JEL: G20 G21 G28 M00 M40 M41 M42 M48 M49
    Date: 2021
  4. By: Stephen Millard,; Margarita Rubio; Alexandra Varadi
    Abstract: We use a DSGE model with financial frictions, leverage limits on banks, loan-to-value limits and debt- service ratio (DSR) limits on mortgage borrowing, to examine: i) the effects of different macroprudential policies on key macro aggregates; ii) their interaction with each other and with monetary policy; and iii) their effects on the volatility of key macroeconomic variables and on welfare. We find that capital requirements can nullify the effects of financial frictions and reduce the effects of shocks emanating from the financial sector on the real economy. LTV limits, on their own, are not sufficient to constrain house- hold indebtedness in booms, though can be used with capital requirements to keep debt-service ratios under control. Finally, DSR limits lead to a significant decrease in the volatility of lending, consumption and inflation, since they disconnect the housing market from the real economy. Overall, DSR limits are welfare improving relative to any other macroprudential tool.
    Keywords: Macroprudential Policy, Monetary Policy, Leverage Ratio, Affordability Constraint, Col-lateral Constraint.
    Date: 2020
  5. By: Ozili, Peterson K
    Abstract: Basel III is a framework to preserve the stability of the international banking system. Nigeria adopts Basel capital framework for capital regulation in the banking sector. This article is a policy discussion on how to make Basel III work in Nigeria. The significance of Basel III is discussed, and some ideas to consider when implementing Basel III to make it work in Nigeria, are provided. Under Basel III, the Nigerian banking system should expect better capital quality, higher levels of capital, the imposition of minimum liquidity requirement for banks, reduced systemic risk, and a transitional arrangement for transitioning across Basel I and II. This article also emphasizes that (i) there should be enough time for the transition to Basel III in Nigeria, (ii) a combination of micro- and macro- prudential regulations is needed; and (iii) the need to repair the balance sheets of banks, in preparation for Basel III. The study recommends that the Nigerian regulator should enforce strict market discipline and ensure effective supervision under the Basel framework. There should be international cooperation between the domestic bank regulator and bank regulators in other countries. The regulator should have a contingency plan to reassure the public of the safety of their deposits, and there should be emergency liquidity solutions to support the financial system in bad times.
    Keywords: Basel III, Bank Business Models, Bank Performance, Financial Stability, Capital Regulation, Bank Regulation, Nigeria
    JEL: G01 G20 G21 G22 G23 G24 G28 G29
    Date: 2021
  6. By: Ugo Panizza (IHEID, Graduate Institute of International and Development Studies, Geneva)
    Abstract: This paper builds a new dataset on bank ownership and reassesses the links between state-ownership of banks and each of financial development, economic growth, financial stability, bank performance, liquidity creation, and lending cyclicality. Using panel data to estimate the short-and medium-term relationship between state-ownership and financial depth, the paper shows that there is no robust correlation between these two variables. The paper also finds no evidence of a negative correlation between state-ownership of banks and economic growth (if anything, the relationship is positive but rarely statistically significant). Looking at financial instability, the paper finds that banking crises predict increases in state-ownership but that there is no evidence that high state-ownership predicts banking crises. Focusing on bank performance, the paper shows that data for the period 1995-2009 are consistent with existing evidence that state owned banks are less profitable than their private counterparts in emerging and developing economies. However, more recent data show no difference between the profitability of private and public banks located in emerging and developing economies. The paper also corroborates the existing literature which shows that in emerging and developing economies lending by state-owned banks is less procyclical than private bank lending. Exploring the role of fiscal fundamentals, the paper does not find any difference in countercyclicality between high and low debt countries, but it finds that countercyclical lending by state-owned banks substitutes, rather than complement, countercyclical fiscal policy. It also finds that lending by state-owned banks helps smoothing production in labor intensive industries and in industries with a large share of small firms.
    Keywords: Banking; State-owned banks; Financial stability
    JEL: G21 H11 O16
    Date: 2021–07–01
  7. By: Felipe Aldunate; Dirk Jenter; Arthur Korteweg; Peter Koudijs
    Abstract: Does enhanced shareholder liability reduce bank failure? We compare the performance of around 4,200 state-regulated banks of similar size in neighboring U.S. states with different liability regimes during the Great Depression. The distress rate of limited liability banks was 29% higher than that of banks with enhanced liability. Results are robust to a diff-in-diff analysis incorporating nationally-regulated banks (which faced the same regulations everywhere) and are not driven by other differences in state regulations, Fed membership, local characteristics, or differential selection into state-regulated banks. Our results suggest that exposing shareholders to more downside risk can successfully reduce bank failure.
    Keywords: limited liability, bank risk taking, financial crises, Great Depression
    JEL: G21 G28 G32 N22
    Date: 2021
  8. By: Mücke, Christian; Pelizzon, Loriana; Pezone, Vincenzo; Thakor, Anjan V.
    Abstract: We empirically examine the Capital Purchase Program (CPP) used by the US gov- ernment to bail out distressed banks with equity infusions during the Great Recession. We find strong evidence that a feature of the CPP - the government's ability to ap- point independent directors on the board of an assisted bank that missed six dividend payments to the Treasury - helped attenuate bailout-related moral hazard. Banks were averse to these appointments - the empirical distribution of missed payments exhibits a sharp discontinuity at five. Director appointments by the Treasury led to improved bank performance, lower CEO pay, and higher stock market valuations.
    Keywords: Bank Bailout,TARP,Capital Purchase Program,Dividend Payments,Board Appointments,Bank Recapitalization
    JEL: G01 G2 G28 G38 H81
    Date: 2021
  9. By: Laura Marcela Capera Romero (Tilburg University)
    Abstract: Interest rate caps, also called usury ceilings, are a widely used policy tool to protect consumers from excessive charges by loan providers. However, they are often cited as a barrier for the advancement of financial inclusion, as they may reduce the incentives to provide loans to lower-income borrowers and and to invest in branching networks, particularly in remote and isolated locations. In this paper, I exploit a change in the usury ceiling applied to micro-loans in Colombia to understand the effects of this policy across geographic markets. To quantify the welfare implications of this policy, I structurally estimate a demand and supply model that incorporates the changes in size and composition of the potential market caused by this policy change, in a context where the distribution of branching networks has a crucial role in the optimal pricing strategies of loan providers. I find that the policy generated an increase in consumer surplus at the national level that is explained by greater credit availability for riskier borrowers and the expansion of branching networks in areas that were previously under-served. A counterfactual exercise reveals that the welfare gains associated to this policy depend greatly on additional investment in branching networks, as the opening of new branches in some locations is needed to compensate the consumer welfare loss associated with the subsequent increase in interest rates after the relaxation of the ceiling.
    Keywords: Microfinance institutions, price ceilings, consumer welfare
    JEL: L11 D43 D61 G21 G28
    Date: 2021–06–28
  10. By: Luc Eyraud; Irina Bunda; Zhangrui Wang
    Abstract: The coronavirus (COVID-19) crisis, which has hit financial systems across Africa, is likely to deteriorate banks’ balance sheets. The largest threat to banks pertains to their loan portfolios, since many borrowers have faced a sharp collapse in their income, and therefore have difficulty repaying their obligations as they come due. This could lead to a sharp increase in nonperforming loans (NPLs) in the short to medium term.
    Keywords: Nonperforming loan disposal; Excel template; disposal strategy; raise capital requirement; loan portfolio; management cost; Nonperforming loans; Loans; Distressed assets; Financial statements; Collateral; Sub-Saharan Africa; Africa
    Date: 2021–06–08
  11. By: David Rivero; Hugo Rodríguez Mendizábal
    Abstract: In this paper we show that nominal demand-deposits are not, in general, Pareto optimal contracts. We construct a variation of the ? model where inside money is essential. In this setting, we show that the interplay between non-contingent deposit contracts and price flexibility is not a sufficient mechanism to provide efficient risk-sharing. Furthermore, state-contingent deposit contracts are not incentive compatible and implementing them would require banks to gather specific information regarding customer preferences that is beyond the scope of current depository institutions.
    Keywords: deposit contracts, risk-sharing, money creation, state contingencies
    JEL: G21 E42
    Date: 2021–07
  12. By: ULLAH, NAZIM
    Abstract: The behaviour of the customers plays important role on the organization. The study analyze customers perceived values of Malayan Banking Berhad and Bank Muamalat Malaysia Berhad by using Holbrook Model. A number of literature is reviewed and discussed. The findings show that Bank Muamalat Malaysia Berhad should follow the proposed value proposition plan to be a leading bank like Malayan Banking Berhad. Further empirical analysis can be conducted in future by adding more banks.
    Keywords: Malayan Banking Berhad, Bank Muamalat Malaysia Berhad, Holbrook Model
    JEL: G21
    Date: 2021–02–01
  13. By: Kyle Dempsey; Felicia Ionescu
    Abstract: Using administrative data from Y-14M and Equifax, we find evidence for large spreads in excess of those implied by default risk in the U.S. unsecured credit market. These borrowing premia vary widely by borrower risk and imply a nearly flat relationship between loan prices and repayment probabilities, at odds with existing theories. To close this gap, we incorporate supply frictions – a tractably specified form of lending standards – into a model of unsecured credit with aggregate shocks. Our model matches the empirical incidence of both risk and borrowing premia. Both the level and incidence of borrowing premia shape individual and aggregate outcomes. Our baseline model with empirically consistent borrowing premia features 45% less total credit balances and 30% more default than a model with no such premia. In terms of dynamics, we estimate that lending standards were unchanged for low risk borrowers but tightened for high risk borrowers at the outset of Covid-19. Borrowing premia imply a smaller increase in credit usage in response to a negative shock, which this tightening reduced further. Since spreads on loans of all risk levels are countercyclical, all consumers use less unsecured credit for insurance over the cycle, leading to 60% higher relative consumption volatility than in a model with no borrowing premia.
    Keywords: Bankruptcy; Borrowing premia; Consumer credit; Business cycles
    JEL: E21 E32 E44 E51 G12 G21 G22
    Date: 2021–06–24
  14. By: Jorge Pozo (Central Reserve Bank of Peru); Youel Rojas (Central Reserve Bank of Peru)
    Abstract: In this paper we develop a simple two-period model that reconciles credit demand and supply frictions. In this stylized but realistic model credit and deposit markets are interlinked and credit demand and credit supply frictions amplify each other in such a way that produces in equilibrium very low levels of credit and stronger reductions of the real and nominal interest, so an economy is much closer to the ZLB. However, an unconventional credit policy, that consists on central bank loans to firms that are guaranteed by the government, can undo partially the effects of the credit frictions and prevents the economy from reaching the ZLB. Since central bank loans are not subject to the moral hazard problem between bankers and depositors and are government-guaranteed, credit market interventions rise aggregate credit supply and positively affect the aggregate credit demand, respectively. However, once the economy is at the ZLB the effect of a credit policy is reduced due to a relatively stronger inflation reduction, which in turn reduces entrepreneurs' incentives to demand bank loans.
    Keywords: Unconventional credit policy; asymmetric information; moral hazard; zero Lower bound
    JEL: G21 G28 E44 E5
    Date: 2021–07–01
  15. By: Anna Dubinova (Vrije Universiteit Amsterdam); Andre Lucas (Vrije Universiteit Amsterdam); Sean Telg (Vrije Universiteit Amsterdam)
    Abstract: We investigate the relationship between macro fundamentals and credit risk, rating migrations and defaults during the start of the COVID-19 pandemic. We find that credit risk models that use macro fundamentals as covariates overestimate credit risk incidence due to the unprecedented drops in economic activity in the first lockdowns. We argue that this break in the macro-credit linkage is less affected if we take an unobserved components modeling framework, both at shorter and longer credit risk horizons.
    Keywords: COVID-19, credit risk, macro fundamentals, frailty factors, dynamic latent factors
    JEL: G21 C22
    Date: 2021–06–28
  16. By: Musgrave, Ralph S.
    Abstract: Fractional reserve banking is inherently risky, which in large part explains the hundreds of bank failures throughout history and the 2007/8 bank crisis which lead to catastrophic economic and social damage. So fractional reserve must have some amazing benefits to make up for the latter shambles, or so you might think. In fact the alleged benefits of fractional reserve as compared to the alternative, namely 100% reserves are unimpressive to put it politely. Three of the main alleged benefits are examined below: first, the fact that fractional reserve banks create liquidity / money, second that it gives private / commercial banks more flexibility and third that it involves lower interest rates.
    Keywords: bank; fractional reserve; 100% reserve
    JEL: E5 G21
    Date: 2021–06–27
  17. By: Rebecca Reubenstein; Asani Sarkar
    Abstract: Regulations are not written in stone. The benefits derived from them, along with the costs of compliance for affected institutions and of enforcement for regulators, are likely to evolve. When this happens, regulators may seek to modify the regulations to better suit the specific risk profiles of regulated entities. In this post, we consider the Economic Growth, Regulatory Relief, and Consumer Protection Act (EGRRCPA) passed by Congress in 2018, which eased banking regulations for smaller institutions. We focus on one regulation—the Liquidity Coverage Ratio (LCR)—and assess how its relaxation affected newly exempt banks’ assets and liabilities, and the resilience of the banking system.
    Keywords: banking regulations; tailoring; liquidity coverage ratio
    JEL: E5 K2
    Date: 2021–07–12
  18. By: André Teixeira; Zoë Venter
    Abstract: This paper shows that the recent surge in savings is a result of tighter macroprudential policy. Using a difference-in-differences approach with staggered treatment adoption, we find that households in EU countries that adopted macroprudential policy between 2000 and 2019 increased their savings up to one third more than households in countries without macroprudential policy. Furthermore, our results indicate that the loan-to-value ratio explains most of the variation on savings. Finally, we find that a longer exposure to macroprudential policy exacerbates savings with searing consequences on growth.
    Keywords: Macroprudential policy, savings, growth, difference-in-differences
    JEL: E21 E52 O47
    Date: 2021–06
  19. By: Subhan, M. Nuruddin
    Abstract: This study aims to analyze the effect of commercial bank soundness in Indonesia based on Bank Indonesia regulation number 13/24/DPNP date 25 October 2011, which concern on the implementation guide for Bank Regulation in Indonesia number 13/1/PBI/ 2011 on assessment of bank healthy. In general, those assessments cover risks, good corporate governance (GCG), earning and capital. While, the performance of commercial bank is measured based on credit growth and profit growth. A total of 45 commercial banks listed on the Indonesia Stock Exchange are the population of the study which will be analyzed using the structural equation modeling program - partial least square (SEM-PLS). The results show that credit risk, GCG and earnings have no effect on bank’s performance in Indonesia. Market risk, liquidity risk and capital negatively affect the performance of commercial banks in Indonesia. This research is expected to contribute to the policy making of central banks and also commercial bank organization in particular to improve their performance. This research also contributes to the theory by enriching the discussion on related themes.
    Date: 2021–06–09
  20. By: Shan Huang
    Abstract: This thesis mainly focuses on two problems in capital structure and individual's life-cycle portfolio choice. In the first problem, we derive a stochastic control model to optimize banks' dividend and recapitalization policies and calibrate that to a sample of U.S. banks in the situation where we model banks' true accounting asset values as partially observed variables due to the opaqueness in banks' assets. By the calibrated model, the noise in reported accounting asset values hides about one-third of the true asset return volatility and raises the banks' market equity value by 7.8\% because the noise hides the banks' solvency risk from banking regulators. Particularly, those banks with a high level of loan loss provisions, nonperforming assets, and real estate loans, and with a low volatility of reported total assets have noisy accounting asset values. Because of the substantial shock on the true asset values, the banks' assets were more opaque during the recent financial crisis. In the second problem, we present an optimal portfolio selection model with voluntary retirement option in an economic situation, where an investor is facing borrowing and short sale constraints, as well as the cointegration between the stock and labor markets. Our model reinterprets the non-participation puzzle in stock investment and early retirement in market booms. Investor's willingness to retire earlier becomes stronger as risk aversion increases or as wages decline in the long term. Consistent with the empirical evidence, we find that retirement flexibility makes the optimal portfolio invest less in the stock market. We also find that our model-generated portfolio share rises in wealth.
    Date: 2021–07
  21. By: Md. Ruhul Amin (Department of Finance and Banking, Islamic University, Bangladesh Author-2-Name: Author-2-Workplace-Name: Md. Nahiduzzaman Author-3-Name: Department of Finance and Banking, Islamic University, Bangladesh Author-3-Workplace-Name: Author-4-Name: Author-4-Workplace-Name: Author-5-Name: Author-5-Workplace-Name: Author-6-Name: Author-6-Workplace-Name: Author-7-Name: Author-7-Workplace-Name: Author-8-Name: Author-8-Workplace-Name:)
    Abstract: "Objective - Mobile banking is a growing activity to engage the non-banking people in the banking system in Bangladesh, so researchers of this paper try to find out how much it is affected by the Coronavirus (COVID-19). Basically, this study is developed to assess the performance of mobile banking during the COVID-19 pandemic period comparing with the pre-pandemic period. Methodology/Technique - Authors use descriptive statistics to evaluate the performance of mobile bank during the study period from 2014 to August 2020. Findings - This paper finds that during the COVID period the average change of monthly number of active accounts & registered clients have increased, on the other hand the average change of monthly number of agents have decreased at the same time. Except cash in & cash out, all other types of transactions proportion of mobile banking have increased during the COVID-19 period. Novelty - As the mobile banking is a key resource for banking people as well as non-banking people to transact financial things at setting at the house, so this paper will be beneficial for mobile banking service provider organization to assess the whole things of mobile banking at this ongoing period, and they can take necessary action. Type of Paper - Empirical."
    Keywords: Mobile Banking, COVID-19, Financial Performance, Bangladesh.
    JEL: G21 G22
    Date: 2021–07–30
  22. By: Florina Silaghi (UAB - Universitat Autònoma de Barcelona); Franck Moraux (CREM - Centre de recherche en économie et management - UNICAEN - Université de Caen Normandie - NU - Normandie Université - UR1 - Université de Rennes 1 - UNIV-RENNES - Université de Rennes - CNRS - Centre National de la Recherche Scientifique)
    Abstract: This paper provides a theoretical analysis of trade credit within a real options framework. We show that under trade credit the buyer delays the decision to stop production, getting closer to the supply chain optimal stopping decision. Therefore, trade credit may serve as a coordination device. The supplier can optimally choose to offer trade credit for free, since this will guarantee her business for a longer period of time. Optimal trade credit design is analyzed for an integrated supply chain (cooperative solution) and for external procurement (Nash bargaining and Stackelberg solutions). When regulation imposes a limit on trade credit maturity, the wholesale price is reduced, trade credit decreases and internal procurement increases. The model's predictions are in line with recent empirical evidence on the effects of regulation in the retail industry.
    Keywords: Finance,Real options,Supply chain coordination,Trade credit,Vertical integration
    Date: 2021–04–24

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