nep-ban New Economics Papers
on Banking
Issue of 2023‒10‒23
thirty-six papers chosen by
Sergio Castellanos-Gamboa, Tecnológico de Monterrey

  1. Banks' credit loss forecasts: lessons from supervisory data By Martin Birn; Renzo Corrias; Christian Schmieder; Nikola Tarashev
  2. CBDC and the operational framework of monetary policy By Jorge Abad; Galo Nuño Barrau; Carlos Thomas
  3. Should Banks Be Worried About Dividend Restrictions? By Josef Schroth
  4. Why Does the Yield Curve Predict GDP Growth? The Role of Banks By Camelia Minoiu; Andrés Schneider; Min Wei
  5. Estimation and Determinants of Cost Efficiency: Evidence from Central Bank Operational Expenses By Mr. Romain M Veyrune; Solo Zerbo
  6. The CO2 content of the TLTRO III scheme and its greening By Chiara Colesanti Senni; Maria Sole Pagliari; Jens van ‘t Klooster
  7. In search of accounting principles for the central bank By Krzysztof Kruszewski; Mikołaj Szadkowski
  8. Preaching to the Agnostic: Inflation Reporting Can Increase Trust in the Central Bank but Only among People with Weak Priors By Bernd Hayo; Pierre-Guillaume Méon
  9. The role of central bank forecasts in uncertain times By Jacek Kotłowski
  10. Granular banking flows and exchange-rate dynamics By Bippus, Balduin; Lloyd, Simon; Ostry, Daniel
  11. Examining CBDC and Wholesale Payments By Jon Durfee; Jesse Leigh Maniff; Priyanka Slattery
  12. Restoring Property rights: The Effects of Land Restitution on access to credit By Bogliacino, Francesco; Posso, Christian M; Villaveces, Juanita
  13. Macro-Prudential Stress Test Models: A Survey By David Aikman; Daniel Beale; Adam Brinley-Codd; Anne-Caroline Hüser; Giovanni Covi; Caterina Lepore
  14. The Effect of Bank Recapitalization Policy on Credit Allocation, Investment, and Productivity: Evidence from a Banking Crisis in Japan By Hiroyuki Kasahara; Yasuyuki Sawada; Michio Suzuki
  15. Judging Banks’ Risk by the Profits They Report By Ben S. Meiselman; Stefan Nagel; Amiyatosh Purnanandam
  16. The Zombie Lending Channel of Monetary Policy By Bruno Albuquerque; Chenyu Mao
  17. Modeling the Reserve Demand to Facilitate Central Bank Operations By Zhuohui Chen; Nikolaos Kourentzes; Mr. Romain M Veyrune
  18. Anonymous Credentials: Secret-Free and Quantum-Safe By Raza Ali Kazmi; Cyrus Minwalla
  19. Conditional Cash Transfers, Debit Cards and Financial Inclusion: Experimental Evidence from Argentina By Cruces, Guillermo
  20. Good Supervision: Lessons from the Field By Mr. Tobias Adrian; Ana Carvalho; Ms. Marina Moretti; Hee Kyong Chon; Katharine Seal; Fabiana Melo; Jay Surti
  21. Banks’ Joint Exposure to Market and Run Risk By Alexander Copestake; Mr. Divya Kirti; Yang Liu
  22. Delays in Climate Transition Can Increase Financial Tail Risks: A Global Lesson from a Study in Mexico By Mr. Dimitrios Laliotis; Sujan Lamichhane
  23. Utiliser la presse pour construire un nouvel indicateur de perception d’inflation en France By De Bandt Olivier; Bricongne Jean-Charles; Denes Julien; Dhenin Alexandre; De Gaye Annabelle; Robert Pierre-Antoine
  24. Alternative Personal Credit Scoring Tests without Financial History, A Novel Method, Credit Needs and Democracy By syrup, soul
  25. Functional Shocks to Inflation Expectations and Real Interest Rates and Their Macroeconomic Effects By Christina Anderl; Guglielmo Maria Caporale
  26. Mobile Money, Interoperability, and Financial Inclusion By Markus K. Brunnermeier; Nicola Limodio; Lorenzo Spadavecchia
  27. From Extreme Events to Extreme Seasons: Financial Stability Risks of Climate Change in Mexico By Michaela Dolk; Mr. Dimitrios Laliotis; Sujan Lamichhane
  28. An Extended Quarterly Projection Model for the Central Bank of Jordan By Adel Al-Sharkas; Nedal Al-Azzam; Sarah AlTalafha; Rasha Abu Shawish; Ahmad Shalein; Auday Rawwaqah; Amany Al-Rawashdeh; Daniel Baksa; Mr. Philippe D Karam; Mr. Jan Vlcek
  29. Simple Macroeconomics of Crypto Currency and the Political Economy of Monetary Policy in a Democracy By Sugata Marjit; Kausik Gupta
  30. The Rise and Fall of Cryptocurrencies: Defining the Economic and Social Values of Blockchain Technologies, assessing the Opportunities, and defining the Financial and Cybersecurity Risks of the Metaverse By Petar Radanliev
  31. The Financial Cost of Using Special Drawing Rights: Implications of Higher Interest Rates By Mr. Neil Shenai; Mr. Nicolas End; Jakree Koosakul; Ayah Said
  32. Financial asymmetries, risk sharing and growth in the EU By Eleonora Cavallaro; Ilaria Villani
  33. How Does Inflation in Advanced Economies Affect Emerging Market Bond Yields? Empirical Evidence from Two Channels By Kim, Sei-Wan; Park, Donghyun; Tian, Shu
  34. Options for Calculating Risk-Free Rate By William Diamond; Jules van Binsbergen; Peter Van Tassel
  35. The Market Price of Risk and Macro-Financial Dynamics By Mr. Tobias Adrian; Fernando Duarte; Tara Iyer
  36. A Comprehensive Review on Financial Explainable AI By Wei Jie Yeo; Wihan van der Heever; Rui Mao; Erik Cambria; Ranjan Satapathy; Gianmarco Mengaldo

  1. By: Martin Birn; Renzo Corrias; Christian Schmieder; Nikola Tarashev
    Abstract: Focusing on credit risk, we compare banks' expected loss (EL) rates, collected confidentially by the Basel Committee on Banking Supervision from 2009 to 2022, and the corresponding actual loss (AL) rates, as reported in vendor data. Consistent with the use of through-the-cycle risk estimates for regulatory purposes, EL rates rarely move in line with AL rates over time, which helps explain a large precautionary element in Basel III capital requirements. We also find that the rank-order of EL rates across banks matches closely that of the AL rates, in line with recent and forthcoming regulatory efforts to improve risk-measurement practices. EL rates are more likely to be excessively optimistic on the heels of higher bank profitability and financial overheating, as captured by the credit-to-GDP gap.
    Keywords: expected loss forecasts; regulatory capital; portfolio credit risk
    JEL: G21 G28 G32 G33 E44 P52
    Date: 2023–09
  2. By: Jorge Abad; Galo Nuño Barrau; Carlos Thomas
    Abstract: We analyze the impact of introducing a central bank-issued digital currency (CBDC) on the operational framework of monetary policy and the macroeconomy as a whole. To this end, we develop a New Keynesian model with heterogeneous banks, a frictional interbank market, a central bank with deposit and lending facillities, and household preferences for different liquid assets. The model is calibrated to replicate the main monetary and financial aggregates in the euro area. Our analysis predicts that CBDC adoption implies a roughly equivalent reduction in banks' deposit funding. However, this 'deposit crunch' has a rather small effect on bank lending to the real economy, and hence on aggregate investment and GDP. This result reflects the parallel impact of CBDC on the central bank's operational framework. For relatively moderate CBDC adoption levels, the reduction in deposits is absorbed by an almost one-to-one fall in reserves at the central bank, implying a transition from a 'floor' system –with ample reserves– to a 'corridor' one. For larger CBCD adoption, the loss of bank deposits is compensated by increased recourse to central bank credit, as the corridor system gives way to a 'ceiling' one with scarce reserves.
    Keywords: central bank digital currency, interbank market, search and matching frictions, reserves
    JEL: E42 E44 E52 G21
    Date: 2023–09
  3. By: Josef Schroth
    Abstract: Countercyclical bank capital requirements have emerged as a popular regulatory tool to help smooth financial cycles. The idea is to reduce capital requirements when exogenous shocks cause aggregate bank capital to decrease so that regulation does not needlessly constrain banks’ supply of credit. In the model in this paper, banks are rationally forward-looking and thus ignore short-lived reductions in capital requirements. During a financial crisis, a regulator would want to first impose drastic dividend restrictions to force banks to rebuild capital, but also would want to keep capital requirements low for a sufficiently long time afterwards. However, such a policy is not time-consistent. Once banks are sufficiently re-capitalized, the regulator would be tempted to immediately raise capital requirements all the way to pre-crisis levels. Optimal time-consistent capital regulation requires that bank capital is rebuilt gradually during financial crises. In particular, banks must be able to pay dividends even when bank equity is still significantly below pre-crisis levels.
    Keywords: Business fluctuations and cycles; Credit and credit aggregates; Credit risk management; Financial stability; Financial system regulation and policies; Lender of last resort
    JEL: E13 E32 E44
    Date: 2023–09
  4. By: Camelia Minoiu; Andrés Schneider; Min Wei
    Abstract: We provide evidence on the effect of the slope of the yield curve on economic activity through bank lending. Using detailed data on banks' lending activities coupled with term premium shocks identified using high-frequency event study or instrumental variables, we show that a steeper yield curve associated with higher term premiums (rather than higher expected short rates) boosts bank profits and the supply of bank loans. Intuitively, a higher term premium represents greater expected profits on maturity transformation, which is at the core of banks' business model, and therefore incentivizes bank lending. This effect is stronger for ex-ante more leveraged banks. We rationalize our findings in a portfolio model for banks.
    Keywords: predictive power of the yield curve; term spread; term premium; bank lending; bank probability; event study; instrumental variable
    JEL: E44 E52 E58
    Date: 2023–09–28
  5. By: Mr. Romain M Veyrune; Solo Zerbo
    Abstract: The finances of central banks is a topic of renewed interest: many central banks are posting significant losses due to the cost of monetary policy, over which central banks have no control. Conversely, operational expenses, over which the central banks have more control, is a subject of less attention. We use public income statement data from central banks to calculate a score for operational expense efficiency based on a stochastic frontier analysis. In addition, we offer potential explanations for the observed variations in efficiency levels across central banks. Our analysis reveals significant heterogeneity across countries and income groups. Central banks with a single objective demonstrate higher efficiency compared with those with multiple objectives. Regarding the output of price stability, central banks in low-income developing countries exhibit lower efficiency compared with central banks in emerging markets and advanced economies. Factors such as central bank independence, the depth of the financial system, and the degree of openness play a role in influencing efficiency levels. Our findings underscore the significance of well-defined objectives, the operating environment, and concentration on core activities in reducing inefficiency.
    Keywords: operational efficiency; stochastic frontier analysis; operating independence; trade; financial depth
    Date: 2023–09–15
  6. By: Chiara Colesanti Senni; Maria Sole Pagliari; Jens van ‘t Klooster
    Abstract: This paper investigates the climate impact of central bank refinancing operations, with a focus the ECB’s TLTRO III program. Notably, we construct a novel database that combines i) confidential data on loans granted by EU banks to non-financial corporations; ii) confidential data on TLTRO III participation and iii) data on sectoral emissions. We find that the emissions content of bank loans granted over the TLTRO III reference period amount to 8% of overall Euro Area 2019 emissions and that more than 80% of total cumulated loans issued in the reference period was directed towards polluting companies. We then investigate the effectiveness of a green credit easing scheme via a general equilibrium model. Our findings are twofold: first, the central bank policy can increase the costs for lending to polluting companies, thus re-directing loans to less-polluting firms; second, the financial stability implications of such a policy should be carefully considered. Finally, we address legal and operational challenges to such a policy by outlining three alternative ways of implementing a “green†TLTRO programme.
    Keywords: TLTRO, CO2 emissions; transition risk; monetary policy; financial stability
    JEL: E40 E50 Q50 Q54
    Date: 2023–10
  7. By: Krzysztof Kruszewski (Narodowy Bank Polski); Mikołaj Szadkowski (Narodowy Bank Polski)
    Abstract: The paper presents the selected accounting principles applied by central banks. It has been emphasised that since 2004 the NBP accounting principles are in line with the Eurosystem accounting principles. The paper shows that the possible change of these principles depends on the perspective of adopting the euro by Poland. If the adoption of the euro takes place in the near future, NBP will have to continue applying the current accounting rules. In this context the paper presents how the NBP balance sheet would change on the date of the hypothetical adoption of the euro by Poland. On the other hand, if the adoption of the single currency becomes a distant prospect, NBP could consider changing the applied accounting principles. Due to the growing risks faced by central banks in the first two decades of the 21st century, this choice should be correlated with the need to build a bank's strong equity position and to reduce the volatility of its financial result. Hence, the paper proposes directions for modification of the existing NBP accounting principles, which would ensure the implementation of the adopted assumptions. The authors indicate that in the case of NBP the application of IFRS would be unjustified.
    Keywords: central bank, central bank accounting, accounting principles of central banks.
    JEL: E58 G21
    Date: 2023
  8. By: Bernd Hayo; Pierre-Guillaume Méon
    Abstract: Using a randomized controlled trial, we study whether showing German respondents a graph plotting the European Central Bank’s inflation target alongside inflation in the euro area from 1999 to 2017 affects respondents’ trust in the ECB. The treatment has, on average, no significant effect on the level of trust in the ECB respondents report, but trust increases among respondents who report no preference for any political party. Within this group, the information about the actual development of the inflation rate, and not information about the inflation target itself, appears to be the main driving force.
    Keywords: central bank trust, European Central Bank, central bank communication, monetary policy, Germany, household survey, RCT
    JEL: E52 E58 Z10
    Date: 2023
  9. By: Jacek Kotłowski (Narodowy Bank Polski and Warsaw School of Economics)
    Abstract: The macroeconomic projection is one of the key communication tools of the central bank. We examine how the projection published by Narodowy Bank Polski affects the expectations of the professional forecasters. We focus on the role of uncertainty in explaining the impact of inflation and GDP forecasts released by the central bank on the forecasters’ expectations. We find that by disclosing its projection the central bank affects the inflation and GDP forecasts formulated by professional forecasters for all the examined horizons: the current year, the next year and two years ahead. Importantly, our results show that the impact of the NBP projection on the expectations of the professional forecasters is stronger when uncertainty is high, which remains in line with the Woodford (2001) model, in which public information helps private agents to separate signal from noise contained in the data. We also evidence that the coordinating role of the projection for the private sector inflation forecasts is larger in high inflation environment.
    Keywords: Monetary policy, central bank communication, forecasting, inflation expectations, uncertainty.
    JEL: C24 E37 E52 E58
    Date: 2023
  10. By: Bippus, Balduin (University of Cambridge); Lloyd, Simon (Bank of England); Ostry, Daniel (Bank of England)
    Abstract: Using data on the external assets and liabilities of global banks based in the UK, the world’s largest centre for international banking, we identify exogenous cross-border banking flows by constructing novel granular instrumental variables. In line with the predictions of a new granular international banking model, we show empirically that cross-border flows have a significant causal impact on exchange rates. A 1% increase in UK-based global banks’ net external US dollar-debt position appreciates the dollar by 2% against sterling. While we estimate that the supply of dollars from abroad is price-elastic, our results suggest that UK-resident global banks’ demand for dollars is price-inelastic. Furthermore, we show that the causal effect of banking flows on exchange rates is state dependent, with effects twice as large when banks’ capital ratios are one standard deviation below average. Our findings showcase the importance of banks’ risk-bearing capacity for exchange-rate dynamics and, therefore, for insulating their domestic economies from global financial shocks.
    Keywords: Capital flows; exchange rates; financial frictions; granular instrumental variables; international banking
    JEL: E00 F00 F30
    Date: 2023–09–22
  11. By: Jon Durfee; Jesse Leigh Maniff; Priyanka Slattery
    Abstract: This paper explores whether a new settlement asset in the form of central bank money is essential for a new platform that processes wholesale payment transactions. Central bank money currently exists for wholesale transactions in the form of depository institution balances at the Federal Reserve (Reserve Banks) used for Fedwire® Funds Service (Fedwire).
    Date: 2023–09–08
  12. By: Bogliacino, Francesco (Universidad Nacional de Colombia); Posso, Christian M; Villaveces, Juanita
    Abstract: We estimate the causal effect of the Law mandating land restitution to victims of forced displacement in Colombia. We use the timing of the restitution as the source of identification in an event study approach. Farmers typically rely on small to medium-sized loans with limited or no collateral to finance their investments, thus we employ microcredit as our main outcome variable. We analyze administrative data from the program, along with data from the census of credit transactions. Our findings reveal a substantial increase in access to credit, both in terms of the likelihood of signing a loan (extensive margin) and the loan amounts (intensive margin). These effects are most pronounced two years after land restitution, coinciding with the moment individuals gain full property rights. By delving into the specific details of these credit transactions, we ascertain that the credits obtained are primarily directed towards agricultural investments. This suggests that the increased access to credit is likely being used to finance material investments in the restored land parcels.
    Date: 2023–09–21
  13. By: David Aikman; Daniel Beale; Adam Brinley-Codd; Anne-Caroline Hüser; Giovanni Covi; Caterina Lepore
    Abstract: In this paper, we survey the rapidly developing literature on macroprudential stress-testing models. The scope of the survey includes models of contagion between banks, models of contagion within the wider financial system including non-bank financial institutions such as investment funds, and models that emphasise the two-way interaction between the financial sector and the real economy. Our aim is two-fold: first, to provide a reference guide of the state-of-the-art for those developing such models; second, to distil insights from this endeavour for policy-makers using these models. In our view, the modelling frontier faces three main challenges: (a) our understanding of the potential for amplification in sectors of the non-bank financial system during periods of stress, (b) multi-sectoral models of the non-bank financial system to analyse the behaviour of the overall demand and supply of liquidity under stress and (c) stress testing models that incorporate comprehensive two-way interactions between the financial system and the real economy. Emerging lessons for policy-makers are that, for a given-sized shock hitting the system, its eventual impact will depend on (a) the size of financial institutions' capital and liquidity buffers, (b) the liquidation strategies financial institutions adopt when they need to raise cash, and (c) the topology of the financial network.
    Keywords: Stress testing; system-wide models; contagion; systemic risk; market-based finance; real-financial linkages; macro-prudential policy.; bank resilience channel; modelling frontier; bank financial system; models of contagion; variation margin; Asset liquidity; Commercial banks; Liquidity; Solvency; Global
    Date: 2023–08–25
  14. By: Hiroyuki Kasahara; Yasuyuki Sawada; Michio Suzuki
    Abstract: This paper examines the ramifcation of government capital injections into financially distressed banks during the 1997 Japanese banking crisis. By leveraging a unique dataset merging firm-levelfinancial statements and bank balance sheets, the study aims to examine whether the capital injections primarily benfited high-productivity firms or were misallocated to struggling "zombie" firms. The empirical results suggest that banks, post-injection, increased lending to both high-productivity non-zombie firms and low-productivity zombie firms. While the former is in line with conventional theories that prioritize high-productivityfirms for investment and productivity enhancement, the latter suggests credit misallocation towards struggling firms mainly for debt servicing. Intriguingly, the study finds no evidence that these injections promoted investments among firms, irrespective of their productivity orfinancial health status. In particular, we provide suggestive evidence that zombie firms even reduced investments, especially in infrastructure, while high-productivity non-zombie firms did not exhibit a signficant investment boost despite receiving more loans. However, these high-productivity firms displayed positive growth in labor productivity and total factor productivity, potentially driven by sales growth and increased advertisement expenses rather than employment and wage adjustments.
    Date: 2023–08
  15. By: Ben S. Meiselman; Stefan Nagel; Amiyatosh Purnanandam
    Abstract: In competitive capital markets, risky debt claims that offer high yields in good times have high systematic risk exposure in bad times. We apply this idea to bank risk measurement. We find that banks with high accounting return on equity (ROE) prior to a crisis have higher systematic tail risk exposure during the crisis. Proximate causes of crises differ, but the predictive power of ROE is pervasive, including during the financial crisis of 2007–2010 and the recent crisis triggered by the collapse of Silicon Valley Bank. ROE predicts systematic tail risk much better than conventional measures based on risk-weighted assets.
    JEL: G20 G30
    Date: 2023–08
  16. By: Bruno Albuquerque; Chenyu Mao
    Abstract: We uncover a new channel—the zombie lending channel—in the transmission of monetary policy to nonfinancial corporates. This channel originates from the presence of unviable and unproductive (zombie) firms. We identify exogenous variation in monetary conditions around the world by exploiting the international transmission of US monetary policy shocks. We find that tighter monetary policy leads to more favorable credit conditions for zombie firms relative to other firms. Zombies are then able to cut investment and employment by relatively less. This is indicative of evergreening motives by lenders when interest rates rise: lenders face incentives to restructure existing loans of zombie firms to avoid the realization of losses on their balance sheets. Policies that strengthen banks’ balance sheets, that limit banks’ incentives to engage in risky behavior, and laws that allow an efficient resolution of weak firms, may help mitigate zombie lending practices when financial conditions tighten.
    Keywords: Monetary policy; Corporate investment; Zombie firms; Zombie lending
    Date: 2023–09–15
  17. By: Zhuohui Chen; Nikolaos Kourentzes; Mr. Romain M Veyrune
    Abstract: Implementing monetary policy largely consists in controlling short-term interest rates which supposes having a good understanding of banks’ demand for liquidity also called “reserves” at the central bank. This work aims to offer a modeling methodology for estimating the demand for reserves that itself is influenced by various macro and market structure variables. The model can help central banks to identify ”stable points” on the demand for reserves, which correspond to the levels of reserves for which the short-term interest rate volatility is minimal. Both parametric and non-parametric approaches are provided, with a particular focus on capturing the modeling uncertainty and, therefore, facilitating scenario analysis. A method is proposed to test the forecasting performances of different approaches and exogenous regressors combination, finding that simpler parametric expressions provide on balance better performances. Adding variables to both parametric and non-parametric provides better explanations and predictions. The proposed methodology is evaluated using data from the Euro system and the US Federal Reserve System.
    Keywords: Reserve demand; scenario analysis; short-term interest rate; sigmoid
    Date: 2023–09–01
  18. By: Raza Ali Kazmi; Cyrus Minwalla
    Abstract: An anonymous credential mechanism is a set of protocols that allows users to obtain credentials from an organization and demonstrate ownership of these credentials without compromising users’ privacy. In this work, we construct the first secret-free and quantum-safe credential mechanism. The scheme is secret-free in the sense that an organization does not need to guard a secret key. The scheme is also lightweight in construction. Security of the scheme relies on the ability of the organization to maintain the integrity of a publicly known data structure—namely, a Merkle tree—that utilizes a quantum-safe, partially homomorphic hash function as a foundational primitive. We also construct a simple, quantum-safe, zero-knowledge argument of knowledge of membership in the Merkle tree. Additionally, we explore a concrete instantiation of the scheme and show it to be practically efficient for the core functions of enrollment and verification.
    Keywords: Central bank research; Digital currencies and fintech; Payment clearing and settlement systems
    JEL: E42 G21 O31
    Date: 2023–09
  19. By: Cruces, Guillermo
    Abstract: Cash transfer and other social protection programs in developing countries have often been accompanied by measures to foster financial inclusion, such as the adoption and use of bank accounts and electronic means of payments. Argentina's social benefits are paid in bank accounts and accessed through debit cards. With the simultaneous objective of fostering formality among beneficiaries and stores, the use of debit cards for purchases has been incentivized by means of additional subsidies. We studied the low take-up of these extra benefits by means of a field experiment involving 400, 000 beneficiaries of Argentinas largest conditional cash-transfer program (with 2.2 million beneficiaries who are the parents of four million children, 40% of the countrys 0-17-year olds). By using their debit card to spend the allowance, rather than withdrawing cash from ATMs, they can receive a rebate of 15% of their expenditures. However, they systematically fail to claim this benefit: only about 25% of beneficiaries receive this transfer. Our experiment provided information about the effectiveness of an information campaign conducted via text messages or through on-screen messages at ATM machines. The campaign increased purchases with debit cards and subsequent rebates significantly but not substantially in the short run. However, beneficiaries who increased their use of debit cards do not exhibit a higher probability of having access to credit through the financial system, nor higher levels of formal employment. The results indicate that cultural factors (a preference for cash), administrative hassle and citizen security issues are relevant issues that limit the potential of financial inclusion through increased use of digital means of payment.
    Keywords: Take-up of social benefits;financial inclusion
    JEL: C93 H26 K34 K42 Z13
    Date: 2023–08
  20. By: Mr. Tobias Adrian; Ana Carvalho; Ms. Marina Moretti; Hee Kyong Chon; Katharine Seal; Fabiana Melo; Jay Surti
    Abstract: Keeping banks safe and sound hinges on good supervision. The bank failures of March 2023 precipitated questions about the effectiveness of supervision. This paper reflects on lessons learned from this banking turmoil and reviews global progress in delivering effective supervision over the past ten years. It finds progress in areas like risk monitoring, stress testing, and business model analysis. Yet, progress has also been hampered by deficiencies in supervisory approaches, techniques, tools, and (use of) corrective and sanctioning powers, as well as by unclear mandates, inadequate powers, and lack of independence and resources. Overcoming these deficiencies requires supervisors to improve their own performance and other policy makers to contribute to ensuring vigilant, independent and accountable supervision.
    Keywords: Banks; supervision; prudential standards
    Date: 2023–09–06
  21. By: Alexander Copestake; Mr. Divya Kirti; Yang Liu
    Abstract: Recent failures of US banks highlight that large liability withdrawals can damage capital positions—i.e., that liquidity risk and solvency risk interact. A simple risk assessment for banks in a wide group of countries finds sizable exposure to this interaction. This varies significantly across banks—primarily reflecting differences in cash buffers, capitalization, securities holdings and exposure to market risk—and is highly concentrated. Vulnerability is generally greater for banks in AEs due to lower cash buffers, securities holdings and capitalization. Within AEs—unlike in EMs—larger banks are most exposed, due to greater wholesale funding and thinner capital buffers. Estimated aggregate losses are substantial in some countries, reflecting a range of recent shocks.
    Keywords: Banks; Liquidity Risk; Solvency Risk
    Date: 2023–09–22
  22. By: Mr. Dimitrios Laliotis; Sujan Lamichhane
    Abstract: This paper explores a novel forward-looking approach to study the financial stability implications of climate-related transition risks. We develop an integrated micro-macro framework with a new class of scenario called delayed-uncertain pathways. An additional stochastic financial modeling layer via a jump-diffusion process is considered to capture continuously changing risks, as well as the potential of large/sudden shocks in the financial markets. We applied this approach to study transition risks in the Mexican financial sector. But the implications are global in scope, and the framework is easily adaptable to other countries. We quantify the projections of future distributions of various risk metrics and, hence, the evolving tail risks due to compounding effects from delays in transitioning to a low-carbon economy and the consequent uncertainty of the future policy path. We find that the longer the delays in transition, the larger the future tail financial risks, which could be material to the overall system.
    Keywords: Climate change; transition risk; greenhouse gas emissions; financial stability; stress testing; default risk; jump-diffusion; mapping CGE model sector; tail risk; NAICS sector classification; probabilities of default; vulnerability indicator; Credit risk; Global
    Date: 2023–08–25
  23. By: De Bandt Olivier; Bricongne Jean-Charles; Denes Julien; Dhenin Alexandre; De Gaye Annabelle; Robert Pierre-Antoine
    Abstract: The paper applies Natural Language Processing techniques (NLP) to the quasi-universe of newspaper articles for France, concentrating on the period 2004-2022, in order to measure inflation attention as well as perceptions by households and firms for that country. The indicator, constructed along the lines of a balance of opinions, is well correlated with actual HICP inflation. It also exhibits good forecasting properties for the European Commission survey on households’ inflation expectations, as well as overall HICP inflation. The method used is a supervised approach that we describe step-by-step. It performs better on our data than the Latent-Dirichlet-Allocation (LDA)-based approach of Angelico et al. (2022). The indicator can be used as an early real-time indicator of future inflation developments and expectations. It also provides a new set of indicators at a time when central banks monitor inflation through new types of surveys of households and firms.
    Keywords: Inflation, Natural Language Processing, Households and Firms, Expectations, Machine Learning
    JEL: C53 C55 D84 E31 E58
    Date: 2023
  24. By: syrup, soul
    Abstract: Credit scores allow individuals and businesses to be able to take loans, many of which stimulate the economy, allowing ideas to be formed into products and services, and giving the opportunity for people to own their own place of residence. The hypothesis of this study was that IQ scores and financial literacy scores are positively correlated with credit scores, and that higher financial literacy confidence scores coupled with low financial literacy scores are negatively correlated to credit scores, thus allowing the possibility to create an algorithm to predict credit scores of people who do not have credit scores. A survey was used to collect the data in this study, specifically IQ scores, financial literacy scores, financial literacy confidence scores, and credit scores. 96 participants, aged 18 and over, were recruited through opportunistic sampling and consented to take part in the survey. Analysis consisted of correlation charts, heatmaps, scatter plots, multivariable regression, to find patterns in the data. The results show that the combination of IQ scores, financial literacy scores, and financial literacy self-confidence scores, is strongly positively correlated to credit scores. A multivariable regression model was created, with an accuracy of 74.19%. An Artificial Neural Network was created, with an accuracy of 65.51%.
    Date: 2023–09–29
  25. By: Christina Anderl; Guglielmo Maria Caporale
    Abstract: This paper applies a recently developed method (Inoue and Rossi, 2021) to estimate functional inflation expectations and ex-ante real interest rate shocks, and then examines their macroeconomic effects in the context of a Functional Vector Autoregressive model with exogenous variables (Functional VARX). Monthly data from January 1998 to May 2023 for the US, the UK and the euro area are used for the analysis. The estimated impulse responses show significant effects of the functional shocks on both inflation and output. In addition, threshold functional local projections indicate that the effects are nonlinear and depend on central bank credibility. Further, inflation expectations shocks have similar effects to supply (demand) ones when they are driven by long-term (short-term) changes. In the presence of an inverted (steepening) real interest rate term structure, the effects are inflationary (deflationary) and expansionary (recessionary). Finally, the responses of inflation, output and the policy rate are driven primarily by the slope and curvature factors of the term structure shocks, which contain important information not captured by traditional scalar shocks.
    Keywords: inflation expectations, term structure, real interest rates, functional shocks
    JEL: E31 E43 C32
    Date: 2023
  26. By: Markus K. Brunnermeier; Nicola Limodio; Lorenzo Spadavecchia
    Abstract: This paper investigates the tradeoff between competition and financial inclusion resulting from the vertical integration between mobile network and money operators. Joining newly assembled data on mobile money fees through the WayBack machine, with sources on network coverage and financials, we examine the staggering across African operators and countries of platform interoperability – a policy that promotes transactions and competition across mobile money operators. Our results show that interoperability benefits users by lowering mobile money fees and their dispersion across operators. However, these positive effects are offset by a decrease in mobile towers and network coverage, especially in rural and poor districts, which, in turn, leads to a lower financial inclusion. We note that combining interoperability with subsidies for rural telecommunications delivers lower fees without hurting coverage.
    JEL: E4 O16 O30
    Date: 2023–09
  27. By: Michaela Dolk; Mr. Dimitrios Laliotis; Sujan Lamichhane
    Abstract: This paper explores the financial stability implications of acute physical climate change risks using a novel approach that focuses on a severe season associated with a sequence of tropical cyclone and flood events. Our approach was recently applied to study physical risks in the Mexican financial sector, but the framework is applicable to other countries as well. We show that even if the scale of individual climate events may not be material at an aggregate national scale, considering a sequence of events could lead to potentially significant macro-financial impacts in the short term. This could occur even if none of the individual events affect the particular region(s) with highest concentrations of banking sector exposures. Our results indicate potential for even greater effects in the future given the increasing severity and frequency of extreme events from climate change. Thus, this paper highlights the importance of considering sequences of extreme physical risk events driven by climate change, rather than just individual extreme events, to better understand financial stability implications and design effective policies.
    Keywords: Climate change; physical risk; disasters; extreme seasons; financial stability; stress testing; climate change risk; risk event; IMF working paper No. 23/176; damage estimate; climate change condition; Natural disasters; Stocks; Financial sector; Global
    Date: 2023–08–25
  28. By: Adel Al-Sharkas; Nedal Al-Azzam; Sarah AlTalafha; Rasha Abu Shawish; Ahmad Shalein; Auday Rawwaqah; Amany Al-Rawashdeh; Daniel Baksa; Mr. Philippe D Karam; Mr. Jan Vlcek
    Abstract: The Central Bank of Jordan (CBJ) has developed a Forecasting and Policy Analysis System (FPAS) to serve as a reliable analytical framework for macroeconomic analysis, forecasting and decision-making under a pegged exchange rate regime. At the heart of the FPAS is the CBJ’s extended Jordan Analysis Model (JAM2.0). The model captures the monetary transmission mechanism and provides a consistent monetary policy framework that uses the exchange rate as an effective nominal anchor. This paper outlines the structure and properties of JAM2.0 and emphasizes the enhanced interplay and tradeoffs among monetary, fiscal, and foreign exchange management policies. Simulation and forecasting exercises demonstrate JAM2.0’s ability to match key stylized facts of the Jordanian economy, produce accurate forecasts of important macroeconomic variables, and explain the critical relationships among policies.
    Date: 2023–08–25
  29. By: Sugata Marjit; Kausik Gupta
    Abstract: The paper attempts to examine the macroeconomic implications of the coexistence of crypto currency with legal tender money in the context of a democratic country such as India. The paper shows that macroeconomic implications of crypto currency can be captured by a simple extension of the IS-LM model. The main potential political consequence emerges due to difficulty in implementation of monetary policy, especially prior to elections. The paper shows that if the share of crypto currency out of total money supply is high it is bound to impact on the efficacy of monetary policy. .The paper also examines the practical difficulties of legalizing crypto currency.
    Keywords: block chain, crypto currency, legal tender money, monetary policy
    JEL: E52 E58 E61 E63
    Date: 2023
  30. By: Petar Radanliev
    Abstract: This paper contextualises the common queries of "why is crypto crashing?" and "why is crypto down?", the research transcends beyond the frequent market fluctuations to unravel how cryptocurrencies fundamentally work and the step-by-step process on how to create a cryptocurrency. The study examines blockchain technologies and their pivotal role in the evolving Metaverse, shedding light on topics such as how to invest in cryptocurrency, the mechanics behind crypto mining, and strategies to effectively buy and trade cryptocurrencies. Through an interdisciplinary approach, the research transitions from the fundamental principles of fintech investment strategies to the overarching implications of blockchain within the Metaverse. Alongside exploring machine learning potentials in financial sectors and risk assessment methodologies, the study critically assesses whether developed or developing nations are poised to reap greater benefits from these technologies. Moreover, it probes into both enduring and dubious crypto projects, drawing a distinct line between genuine blockchain applications and Ponzi-like schemes. The conclusion resolutely affirms the continuing dominance of blockchain technologies, underlined by a profound exploration of their intrinsic value and a reflective commentary by the author on the potential risks confronting individual investors.
    Date: 2023–08
  31. By: Mr. Neil Shenai; Mr. Nicolas End; Jakree Koosakul; Ayah Said
    Abstract: Since the August 2021 SDR allocation, the SDR interest rate has risen about 390 basis points through end-June 2023. This paper analyzes the impact of higher SDR interest rates on IMF members with negative net SDR Department positions. To do so, it constructs SDR forward curves at different points in time, from which the expected cost of servicing SDR obligations can be compared. Results show that the expected path of the SDR interest rate has shifted significantly upward since the 2021 allocation. Expected costs of charges (interest) in net present value terms are estimated to have more than tripled, while the grant element of SDRs has fallen to just below the IMF’s concessionality threshold. Despite this increase in cost, IMF members’ capacity to service SDR obligations remains generally adequate in both baseline and stress scenarios, though a few countries will need to carefully manage the rise in interest costs. Decisions to convert SDRs should consider interest rate risks, among other country-specific factors.
    Keywords: grant element of SDRs; Nelson-Siegel-Svensson model; SDRs; SDR forward curves; SDR interest rate; stress testing
    Date: 2023–09–15
  32. By: Eleonora Cavallaro (University of Rome, Sapienza); Ilaria Villani (European Central Bank)
    Abstract: We focus on the structural and stability dimensions of financial development and build an index to benchmark EU financial systems against their potential to enhance resilient growth and international risk sharing. We have the following results. (i) Based on the transitional dynamics of the index over 2000-2019, EU financial systems are converging towards a clustered pattern; (ii) our measure of financial development is highly significant in growth regressions, suggesting that greater openness, market-based financing, and equity positions, longer debt maturities, and enhanced stability are key to stable growth; (iii) financial asymmetries have implications for the heterogeneous vulnerability to domestic output shocks: the risk sharing mechanism is more effective in financially resilient economies that benefit by the contribution of the capital market channel, while a larger fraction of the GDP shocks remains unsmoothed in less resilient economies that feature a considerable down-seizing of the saving channel in the post-global financial crisis.
    Keywords: Financial resilience, financial asymmetries, growth, volatility, risk sharing
    JEL: F
    Date: 2023
  33. By: Kim, Sei-Wan (Ewha Womans University); Park, Donghyun (Asian Development Bank); Tian, Shu (Asian Development Bank)
    Abstract: Increasing oil and food prices and persistent supply chain disruptions in 2022 contributed to inflation in advanced economies that had not been seen in decades. This pushed up interest rates, which in turn led to higher yields in global bond markets. This study examines two distinct channels that transmit advanced economy inflation to emerging market bond yields by employing a novel multivariable smooth transition autoregressive–vector autoregressive (STAR-VAR) model. Our empirical analysis yields two new key findings. First, advanced economy inflation has a significant effect on regime changes between expansion and contraction in emerging market bond yields. Second, the shortrun effect of advanced economy inflation on the bond yields of emerging markets is asymmetric between the expansion and contraction regimes. The effect is mostly positive in both regimes but stronger in a bond yield’s contraction regime. This suggests that the response of emerging market bond yields to advanced economy inflation does not necessarily follow a simple Fisher equation relationship.
    Keywords: bond yields; inflation; advanced economy; emerging market; regime change; smooth transition autoregressive model
    JEL: C40 C51 F14
    Date: 2023–09–29
  34. By: William Diamond; Jules van Binsbergen; Peter Van Tassel
    Abstract: One of the most fundamental concepts in finance is the notion of a risk-free rate. This interest rate tells us how much money investors are guaranteed to receive in the future by saving one dollar today. As a result, risk-free rates reflect investors’ preferences for payoffs in the future relative to the present. Yields on U.S. Treasury securities are generally viewed as a standard benchmark for the risk-free rate, but they may also feature a “convenience yield, ” reflecting Treasuries’ special, money-like properties. In this post, we estimate a risk-free rate implicit in the prices of S&P 500 index options—called the box rate—to measure investors’ time preference separate from Treasury convenience yields.
    Keywords: risk-free rates; Treasuries; Convenience Yield
    JEL: G1
    Date: 2023–10–02
  35. By: Mr. Tobias Adrian; Fernando Duarte; Tara Iyer
    Abstract: We propose the conditional volatility of GDP spanned by financial factors as a “Volatility Financial Conditions Index” (VFCI) and show it is closely tied to the market price of risk. The VFCI exhibits superior explanatory power for stock and bond risk premia compared to other FCIs. We use a variety of identification strategies and instruments to demonstrate robust causal relationships between the VFCI and macroeconomic aggregates: a tightening of financial conditions as measured by the VFCI leads to a persistent contraction of output and triggers an immediate easing of monetary policy. Conversely, contractionary monetary policy shocks cause tighter financial conditions.
    Keywords: Macro-Finance; Financial Conditions Index; Monetary Policy; Asset Pricing; Market Price of Risk; Consumption Volatility; Causal Identification
    Date: 2023–09–22
  36. By: Wei Jie Yeo; Wihan van der Heever; Rui Mao; Erik Cambria; Ranjan Satapathy; Gianmarco Mengaldo
    Abstract: The success of artificial intelligence (AI), and deep learning models in particular, has led to their widespread adoption across various industries due to their ability to process huge amounts of data and learn complex patterns. However, due to their lack of explainability, there are significant concerns regarding their use in critical sectors, such as finance and healthcare, where decision-making transparency is of paramount importance. In this paper, we provide a comparative survey of methods that aim to improve the explainability of deep learning models within the context of finance. We categorize the collection of explainable AI methods according to their corresponding characteristics, and we review the concerns and challenges of adopting explainable AI methods, together with future directions we deemed appropriate and important.
    Date: 2023–09

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