nep-fdg New Economics Papers
on Financial Development and Growth
Issue of 2022‒01‒31
23 papers chosen by
Georg Man

  1. The effects of regional banks on economic resilience during the COVID-19 pandemic and the global financial crisis a cross-country comparison of the European countries By Flögel, Franz; Hejnová, Tereza
  2. Diversity matters in the world of finance: does ethnic and religious diversity hinder financial development in developing countries By Amin, S.; Murshed, S.M.
  3. Impact of financial development on bank profitability By Ozili, Peterson K; Ndah, Honour
  4. The Role of Income and Property Taxes in Tax Transition and the Mediating Effect of Financial Development By Kodjo Adandohoin; Jean-Francois Brun
  5. Black Economy, Financial Inclusion, Financial Liberalization Nexus: A Panel Analysis of Developing Countries By Sulehri, Fiaz Ahmad; Ahmed, Usman; Alim, Wajid
  6. Financial inclusion: the globally important determinants By Ozili, Peterson K
  7. Firm Finances and Responses to Trade Liberalization: Evidence from U.S. Tariffs on China By Avishai Schiff
  8. Collateral constraints and asset prices By Chabakauri, Georgy; Yueyang Han, Brandon
  9. Long-run equilibrium in international assets and goods markets: Why is the Law of One Price required? By Cuong Le Van; Stefano Bosi; Patrice Fontaine
  10. Preemptive Policies and Risk-Off Shocks in Emerging Markets By Mitali Das; Gita Gopinath; Ṣebnem Kalemli-Özcan
  11. Short-term Prediction of Bank Deposit Flows: Do Textual Features matter? By Katsafados, Apostolos; Anastasiou, Dimitris
  12. When government expenditure meets bank regulation: The impact of government expenditure on credit supply By Li, Boyao
  13. The Resilience of FDI to Natural Disasters through Industrial Linkages By Kato, Hayato; Okubo, Toshihiro
  14. Finance and Growth of SMEs in South Asia: Evidence from Bangladesh, Pakistan, and Sri Lanka By Sharma, Palak
  15. The role of social capital in the financial accompaniment of SMEs: A literature review By Zouhair Boumlik; Badia Oulhadj; Khaddouj Karim
  16. Tackling the Scale-up Gap: Evidence and impact of the scale-up financing gap for innovative firms in Europe and reflections on potential solutions By Anita Quas; Colin Mason; Ramón Compañó; James Gavigan; Giuseppina Testa
  17. Covid-19 and Firms’ Stock Price Growth: The Role of Market Capitalization By Markus Brueckner; Wensheng Kang; Joaquin Vespignani
  18. Microfinance, Moneylenders, and Economic Shocks: An Assessment of the Bangladesh Experience By Emran, M. Shahe; Shilpi, Forhad
  19. E-Money and Deposit Insurance in Kenya By Defina, Ryan; Van Roosebeke, Bert; Manga, Paul
  20. Machines and Markets : Assessing the Impact of Algorithmic Trading on Financial Market Efficiency By Garg, Karan
  21. Central Bank Digital Currencies: The Motivation By Van Roosebeke, Bert; Defina, Ryan
  22. Carbon emissions and banking stability: Global evidence By Agbloyor, Elikplimi Kolma; Dwumfour, Richard Adjei; Pan, Lei; Yawson, Alfred
  23. Assessing Climate-Related Financial Risk: Guide to Implementation of Methods By Hossein Hosseini; Craig Johnston; Craig Logan; Miguel Molico; Xiangjin Shen; Marie-Christine Tremblay

  1. By: Flögel, Franz; Hejnová, Tereza
    Abstract: An economy's ability to resist adverse shocks, such as an economic recession or natural disaster, is associated with its financial system structure due to different countercyclical funding capabilities. This paper uses a novel database of bank headquarter locations in a cross-country comparison to investigate whether a decentralised geographical structure cushioned economic shocks during the COVID-19 pandemic and the global financial crisis (GFC). Findings suggest that the impacts of decentralisation differ between the two crises: while a greater spread of regional banks was associated with economic resilience during the GFC, countries with more centralised banking systems performed better in the first year of the pandemic. Future studies of pandemic recovery paths will show if regional banks have lost their ability for countercyclical funding, or if this non-financial crisis has rendered financial structure less important.
    Keywords: COVID-19 pandemic,regional banks,soft information,economic resilience
    JEL: G21 D82 O47 R58 H12
    Date: 2021
  2. By: Amin, S.; Murshed, S.M.
    Abstract: This paper investigates the relationship between ethnic and religious diversity and financial development by using the data for 102 developing countries. It is widely accepted that financial depth, and the more ready availability of finance, has a central role to play in fostering economic growth. We hypothesize that financial development in developing countries, especially those at the early stages of economic development, may be retarded by pre-existing ethnic and religious diversity, which may produce conflict. However, we believe that this risk can be moderated by sound institutional functioning – including good governance and democracy. Financial depth is measured by M2 and private credit (as a percentage of GDP); the Alesina fragmentation index is used for measuring ethnic and religious diversity, varieties of democracy (VDEM) and the quality of governance datasets. Our results are supportive of our hypothesis that ethnic and religious diversity can indeed hamper financial development; these risks, however, are mitigated by well-functioning institutional arrangements
    Keywords: Ethnic diversity, religious diversity, financial development
    JEL: Z10 Z13 G0
    Date: 2022–01–10
  3. By: Ozili, Peterson K; Ndah, Honour
    Abstract: In this paper, we examine whether financial development is an important determinant of bank profitability. Using the robust ordinary least square and the generalized method of moments regression methodology, we find a significant negative relationship between the financial system deposits to GDP ratio and the non-interest income of Nigerian banks. This indicates that higher financial system deposits to GDP depresses the non-interest income of Nigerian banks. The result implies that the larger the size of the Nigerian financial system, the lower the profitability of banks in Nigeria. Also, we observe that bank concentration, nonperforming loans, cost efficiency and the level of inflation are significant determinants of the profitability of Nigerian banks.
    Keywords: Bank profitability, financial development, banks, return on assets, return on equity, Nigeria, financial system, bank concentration, economic growth, size of financial system, domestic credit to private sector
    JEL: F38 G20 G21 G28
    Date: 2022
  4. By: Kodjo Adandohoin (CERDI - Centre d'Études et de Recherches sur le Développement International - CNRS - Centre National de la Recherche Scientifique - UCA - Université Clermont Auvergne); Jean-Francois Brun (CERDI - Centre d'Études et de Recherches sur le Développement International - CNRS - Centre National de la Recherche Scientifique - UCA - Université Clermont Auvergne)
    Abstract: This paper investigates second wave tax transition (transfer of tax pressure from border taxation towards domestic taxation) concerns in developing countries. It essentially focuses on the compensation effects of incomes and property taxes over international trade tax revenue losses in developing countries. Using a generalized method of moment estimator, we come to the evidence that, incomes and property taxes are poor instruments to balance trade tax revenue losses of trade liberalization in these countries. However, a mediating effect of financial development in the compensation nexus driven by corporate income taxes was found. We explain this result by the fact that the use of financial sector generates paper trails to government in order to enforce and raise corporate income taxes. Financial development may progressively crowd-out informal sector and leads to business formalization. Surprising, we do not find any mediating effect of financial development in the compensation patterns with personal income taxes. Nevertheless, some heterogeneities were discovered. Financial development mediates the compensation patterns of personal income taxes in Latin American countries, while the effect holds on corporate income taxes in African countries. We conclude the paper by highlighting the important role of financial development in second generation tax transition concerns over developing countries.
    Keywords: Income Taxes,Property Tax,Tax Transition,Developing Countries
    Date: 2021
  5. By: Sulehri, Fiaz Ahmad; Ahmed, Usman; Alim, Wajid
    Abstract: This study has examined the impact of financial liberalization and financial inclusion on the black economy in the case of developing countries from 2004 to 2019. The black economy is selected as an explained variable, whereas financial inclusion, financial liberalization, tax collection, level of corruption and political instability are selected as explanatory variables. Panel unit root issue has been checked with the help of PP-Fisher Chi-square (PP-FC), ADF-Fisher Chi-square (ADF-FC), Im, Pesaran, and Shin W-stat (IPSW), and Levin, Lin & Chu t* (LLC) unit root tests. The fixed-effect model has been used for examining the dependence of the black economy on selected explanatory variables. Panel Granger causality test has been applied for checking the causal relationship among the selected variables. The results show that financial liberalization has a negative and insignificant impact on the black economy. Financial inclusions, the level of corruption, and political instability have a positive and significant impact on the black economy. Tax collection has a negative and significant impact on the black economy. The results of the causality test show that most of the variables have unidirectional causality between each other. Based on estimated results, the developing countries should control corruption, political instability, hence level of financial inclusion and tax collection for the reduction of the black economy
    Keywords: Financial Liberalization, Financial Inclusion, Black Economy
    JEL: G00 O15
    Date: 2021
  6. By: Ozili, Peterson K
    Abstract: This paper highlights the globally-important determinants of financial inclusion. The determinants identified in this paper are formal account ownership; demand for formal savings; demand for formal borrowings; financial literacy and education; debit and credit cards usage; the need to receive remittances from family and friends; size of the financial system; number of automated teller machines (ATMs); number of bank branch; closeness to a bank; availability and access to mobile phones; availability of digital financial products and services; technology infrastructure; government policy; culture and traditional belief systems; national financial inclusion strategy and implementation; and direct legislation.
    Keywords: financial inclusion; determinants; unbanked adults; access to finance; digital finance; financial literacy
    JEL: G20 G21 I31
    Date: 2021
  7. By: Avishai Schiff
    Abstract: This paper examines the relationship between a firm’s finances and its response to trade liberalization. Using a landmark change in U.S. tariff policy vis-à-vis Chinese imports and micro level data from the U.S. Census Bureau, I find larger manufacturing job losses in better capitalized firms - those with less leverage and more cash on hand. The effects concentrate in industries where weaker balance sheets are likely to lead to collateral and other borrowing constraints, helping rule out alternative explanations. Finally, domestic manufacturing job losses are not accompanied by greater reductions in sales or aggregate employment, but better capitalized firms do exhibit reduced input costs and increased productivity. These findings point to offshoring as the predominant firm response to trade liberalization and suggest a role for financial capacity in facilitating offshoring investments.
    Date: 2021–11
  8. By: Chabakauri, Georgy; Yueyang Han, Brandon
    Abstract: We study the effects of collateral constraints in an economy populated by investors with nonpledgeable labor incomes and heterogeneous preferences and beliefs. We show that these constraints inflate stock prices and generate spikes and crashes in price-dividend ratios and volatilities, clustering of volatilities, and leverage cycles. They also lead to substantial decreases in interest rates and increases in Sharpe ratios when investors are anxious about hitting constraints due to production crises in the economy. Furthermore, stock prices have large collateral premiums over nonpledgeable incomes. We derive asset prices and stationary distributions of the investors' consumption shares in closed form.
    Keywords: collateral; nonpledgeable labor income; heterogeneous preferences; disagreement; asset prices; stationary equilibrium; Paul Woolley Centre
    JEL: D52 G12
    Date: 2020–12–01
  9. By: Cuong Le Van (CES - Centre d'économie de la Sorbonne - UP1 - Université Paris 1 Panthéon-Sorbonne - CNRS - Centre National de la Recherche Scientifique, PSE - Paris School of Economics - ENPC - École des Ponts ParisTech - ENS Paris - École normale supérieure - Paris - PSL - Université Paris sciences et lettres - UP1 - Université Paris 1 Panthéon-Sorbonne - CNRS - Centre National de la Recherche Scientifique - EHESS - École des hautes études en sciences sociales - INRAE - Institut National de Recherche pour l’Agriculture, l’Alimentation et l’Environnement, IPAG Business School); Stefano Bosi (EPEE - Centre d'Etudes des Politiques Economiques - UEVE - Université d'Évry-Val-d'Essonne - Université Paris-Saclay); Patrice Fontaine (EUROFIDAI - EUROFIDAI)
    Date: 2021
  10. By: Mitali Das; Gita Gopinath; Ṣebnem Kalemli-Özcan
    Abstract: We show that “preemptive” capital flow management measures (CFM) can reduce emerging markets and developing countries’ (EMDE) external finance premia during risk-off shocks, especially for vulnerable countries. Using a panel dataset of 56 EMDEs during 1996–2020 at monthly frequency, we document that countries with preemptive policies in place during the five year window before risk-off shocks experienced relatively lower external finance premia and exchange rate volatility during the shock compared to countries which did not have such pre-emptive policies in place. We use the episodes of Taper Tantrum and COVID-19 as risk-off shocks. Our identification relies on a difference-in-differences methodology with country fixed effects where preemptive policies are ex-ante by construction and cannot be put in place as a response to the shock ex-post. We control the effects of other policies, such as monetary policy, foreign exchange interventions (FXI), easing of inflow CFMs and tightening of outflow CFMs that are used in response to the risk-off shocks. By reducing the impact of risk-off shocks on countries’ funding costs and exchange rate volatility, preemptive policies enable countries’ continued access to international capital markets during troubled times.
    JEL: F3 F31 F41 F44
    Date: 2021–12
  11. By: Katsafados, Apostolos; Anastasiou, Dimitris
    Abstract: The purpose of this study is twofold. First, to construct short-term prediction models for bank deposit flows in the Euro area peripheral countries, employing machine learning techniques. Second, to examine whether textual features enhance the predictive ability of our models. We find that Random Forest models including both textual features and macroeconomic variables outperform those that include only macro factors or textual features. Monetary policy authorities or macroprudential regulators could adopt our approach to timely predict potential excessive bank deposit outflows and assess the resilience of the whole banking sector in the Euro area peripheral countries.
    Keywords: Bank deposit flows; European banks; textual analysis; short-term prediction; machine learning
    JEL: C0 C22 C5 C51 C54 E44 E47 G10
    Date: 2022–01
  12. By: Li, Boyao
    Abstract: I develop a banking model to examine the effects of government expenditures on the credit and money supply under Basel III regulations. Purchases of goods and services from real firms or transfer payments to households as conventional government expenditures (CGEs) inject reserves into banks. Purchases of equity from banks as unconventional government expenditures (UGEs) inject equity into banks. Three Basel III regulations are examined: the capital adequacy ratio, liquidity coverage ratio, and net stable funding ratio. My results demonstrate that the CGE or UGE causes multiplier effects on the credit supply. The multiplier greater (less) than one means that banks amplify (contract) the government expenditure. Multiplier effects on the money supply in response to the CGE or UGE are also presented. My paper sheds considerable light on how government expenditure and bank regulation simultaneously affect the credit and money supply.
    Keywords: Bank credit supply; Government expenditure; Basel III; Multiplier effect; Balance sheet
    JEL: E51 E61 E62 G21 G28
    Date: 2021–12–30
  13. By: Kato, Hayato; Okubo, Toshihiro
    Abstract: When do multinationals show resilience during natural disasters? To answer this, we develop a simple model in which foreign multinationals and local firms in the host country are interacted through input-output linkages. When natural disasters seriously hit local firms and thus increase the cost of sourcing local intermediate inputs, most multinationals may leave the host country. However, they are likely to stay if they are tightly linked with local suppliers and face low trade costs of importing foreign intermediates. We further provide a number of extensions of the basic model to incorporate, for example, multinationals with heterogeneous productivity and disaster reconstruction.
    Keywords: Foreign direct investment (FDI); Multinational enterprises (MNEs); Input-output linkages; Supply chain disruptions; Multiple equilibria
    JEL: F12 F23 Q54
    Date: 2021–12–21
  14. By: Sharma, Palak (Monash University)
    Abstract: This paper studies the determinants of access to finance in small and medium enterprises (SMEs) in three South Asian economies, Bangladesh, Pakistan, and Sri Lanka. The data for this study is from the World Enterprise Survey data set for each country collected by the World bank. The paper uses logistic regression for empirical analysis. Findings of this paper confirm that access to formal and informal finance is significantly determined by the size, age, and formalization of firms. The gender of the owner-manager, sales performance, location, and legal status of the firm are insignificant predictors of a firm’s ability to raise finance. Results from this paper can help governments shape policy and develop programs that can augment a firm’s ability to raise financing from formal sources.
    Keywords: Economic growth ; informal finance ; SMEs ; World Enterprise survey JEL Classification: O11; O53
    Date: 2021
  15. By: Zouhair Boumlik (Université Hassan 1er [Settat]); Badia Oulhadj (Université Hassan 1er [Settat]); Khaddouj Karim (Université Hassan 1er [Settat])
    Date: 2021–10–01
  16. By: Anita Quas (University of Milan); Colin Mason (University of Glasgow); Ramón Compañó (European Commission - JRC); James Gavigan (European Commission - JRC); Giuseppina Testa (European Commission - JRC)
    Abstract: The number of scale-up businesses in the EU, particularly unicorns, lags behind the US and China. This is partially attributed to a deficit in scale-up finance. Based on an a webinar between experts which took place on 5th October 2021, this paper reports and comments on the available evidence of the scale-up financing gap in the EU and discusses its causes and consequences. The paper also reviews what types of instruments might address this gap and discusses issues that need to be addressed in the formulation of effective policy interventions. Finally, it points to missing data, existing knowledge gaps, and areas on which further analysis is required to define better policies.
    Keywords: startups, scaleups, venture capital, finance, innovation
    JEL: O32 O31 O25
    Date: 2021–12
  17. By: Markus Brueckner; Wensheng Kang; Joaquin Vespignani
    Abstract: This paper studies the role of capitalization on firms’ stock price growth in response to new cases of Covid-19 infections in the United States. Controlling for firm and time fixed effects, our panel model estimates show that the effect of new cases of Covid-19 infections on firms’ stock price growth is significantly increasing in capitalization: For each one standard deviation increase in capitalization, a one standard deviation increase in new cases of Covid-19 infections increases the weekly growth rate of firms’ stock prices by about 0.7 percentage points. Effects of capitalization on the impact that Covid-19 infections have on firms’ stock price growth are largest in the travel, tourism, and hospitality sector. Smaller but still positive effects of capitalization are present in the pharmaceutical products, high-tech, and banking and finance sectors.
    Keywords: Covid-19, performance of firms, stock market capitalization, U.S. stock market
    JEL: G10 E30
    Date: 2021–12
  18. By: Emran, M. Shahe; Shilpi, Forhad
    Abstract: The effectiveness of microfinance in improving the economic lives of the poor has been under extensive scrutiny in last two decades. Most of the studies on Bangladesh focus on the poverty and women’s empowerment impacts of microfinance. We provide a discussion on two relatively neglected aspects: the impacts on moneylenders, and the coping ability of households facing adverse shocks. The available evidence suggests that the microfinance in Bangladesh helped free many households from the “clutches” of moneylenders, contradicting the claim of some critics that microfinance exacerbates their dependence on moneylenders. The likelihood that a household takes loans from moneylenders declines by about 70 percent once it becomes a member of a microfinance program. However, the evidence also suggests that the moneylender interest rate goes up when the MFI coverage is high enough in a village, implying that the remaining clients of moneylenders suffer a negative pecuniary externality. The evidence on coping ability suggests that microfinance membership improves food security during flood and Monga. But microfinance membership does not reduce the propensity to sell labor in advance in the lean season and may not help a household undertake short-term migration to urban labor market in response to a shock.
    Keywords: Microfinance, Microcredit, Moneylenders, Interest rate, Cream Skimming, Economic Shocks, Flexible Loan Contract, Seasonal Hunger, Monga, Missing Markets Microfinance, Microcredit, Moneylenders, Interest rate, Cream Skimming, Economic Shocks, Flexible Loan Contract, Seasonal Hunger, Monga, Missing Markets Microfinance, Microcredit, Moneylenders, Interest rate, Cream Skimming, Economic Shocks, Flexible Loan Contract, Seasonal Hunger, Monga, Missing Markets
    JEL: D4 G23 L3 O12 O16
    Date: 2021–12–19
  19. By: Defina, Ryan; Van Roosebeke, Bert; Manga, Paul
    Abstract: E-money is widespread in Kenya, especially through MPESA, a form of e-money stored on mobile phones and issued by Safaricom, a mobile network operator (MNO). Integration between the MPESA platform and the traditional banking system is increasing. Given the very high use-grade of MPESA throughout the population, it has reached critical importance in Kenya. In Kenya, e-money issuers must back their e-value with bank balances at commercial banks (float), through trust accounts. Deposit insurance does not cover a default of the e-money issuer. However, the Kenya Deposit Insurance Corporation aims at offering pass-through coverage in case of a default of the deposit-taking commercial bank holding the trust accounts. Pass-through coverage is confronted with a number of challenges, including regarding data on the identity of e-money users and their balances held. Also, the critical importance of MPESA raises questions as to how to deal with a potential default of the MNO and the role of deposit insurance in such a scenario. Looking forward, there is merit in further coordination amongst safety net participants as well as in the management of trust accounts and the strengthening of data-availability requirements to e-money issuers.
    Keywords: deposit insurance; bank resolution
    JEL: G21 G33
    Date: 2021–12–09
  20. By: Garg, Karan (University of Warwick)
    Abstract: The rise of machine learning has revolutionised finance. Institutions across the world have increasingly turned to data science and machine learning to create trading models without the need for human intervention. This has had various implications for the financial markets that they operate in, including market efficiency. This paper simulates a financial market with agent-based modelling and Monte-Carlo style simulations, to motivate a qualitative discussion about the implications of increased algorithmic trading on financial market efficiency. It finds that algorithmic traders (ATs) can seemingly increase market efficiency through better liquidity management and more complete extraction of information from prices. However, this also comes with increased instability and potential convergence to an unstable equilibrium. The Adaptive Market Hypothesis (Lo, 2004) is suggested as an alternative framework for analysing AT behaviour.
    Keywords: Neural Networks ; Agent-Based Modelling ; Efficient Market Hypothesis ; Stock Market Simulation ; Financial Regulation JEL Classification: C45 ; C53 ; G14 ; G17 ; G18
    Date: 2021
  21. By: Van Roosebeke, Bert; Defina, Ryan
    Abstract: A growing number of central banks are considering the issuance of central bank digital currencies (CBDCs). Upon their introduction and depending on their exact design, CBDCs may have considerable consequences for deposit insurers as well. In the first of a set of papers, this Fintech Brief sets out four of the main motivations for issuing CBDCs. Acknowledging considerable divergences across jurisdictions, we find: • CBDCs for the general public (“retail CBDCs”) would constitute a central bank liability and a form of digital cash. To the public, they would be an alternative to central bank issued cash and private money, such as bank deposits. • A large and growing share of central banks are experimenting with retail CBDCs. Some 20% of central banks indicate that they are likely to issue a retail CBDC by 2026, 40% indicate this is “possible”. • Short-term monetary policy considerations are unlikely to play a significant role in central banks’ motivation for CBDCs. • Whereas central banks in emerging markets and developing economies note that CBDCs may contribute to promoting financial inclusion, in advanced economies, CBDCs are not the most straightforward instrument in doing so. • The evolution of payments plays a pivotal role in developing CBDCs. Given the declining role of cash in some jurisdictions, CBDCs as a new form of central bank money may contribute to safeguarding trust in the public currency. However, the available CBDC amounts necessary for that purpose may cause conflicts with likely and financial-stability-related limits on the volume of CBDCs that individuals may hold. • As CBDCs would offer an alternative payment solution, they would contribute to resilience in future payment markets that may be privately dominated. However, given their digital nature, CBDCs may well be subject to similar cybersecurity and other digital risks that apply to private payment systems. • CBDCs may contribute to competition and efficiency in an otherwise oligopolistic market for payment services, dominated by BigTechs. While potentially challenging to implement, a regulatory or competition-law-based response may be possible and would be less intrusive than introducing a CBDC. • Central banks face the risk of large-scale use by the public of private or public (i.e. CBDC) digital currencies, not denominated in the domestic currency. These currencies may play a decisive role in the economy, and if foreign-based, largely out of reach of domestic legislation. CBDCs and/or private payment solutions in the domestic currency may assist in mitigating this risk, given sufficient demand for these.
    Keywords: deposit insurance; fintech; CBDC
    JEL: G21 G33
    Date: 2021–11–30
  22. By: Agbloyor, Elikplimi Kolma; Dwumfour, Richard Adjei; Pan, Lei; Yawson, Alfred
    Abstract: This paper examines the impact of per capita CO2 emissions on banking stability. To identify the causal effect of carbon emissions on the stability of banking system, we use plausibly exogenous source of variations in energy use as an instrumental variable (IV) for CO2 emissions. Using data for a panel of 122 countries over the period 2000-2013, our IV regression results indicate that there is an inverted U-shaped relationship between per capita CO2 emissions and banking stability. Our findings reveal that CO2 emissions have a positive effect on banking stability at a low level of emissions and an adverse effect at a higher emissions level. We also find that industrialization as proxied by the ratio of manufacturing value added to GDP can be a potential channel through which per capita CO2 emissions affect banking stability. Our results are robust to alternative specifications and have important implications for policy on banking stability.
    Keywords: CO2 emissions; Banking stability; Energy use; Nonlinearity
    JEL: G21 Q50 Q53
    Date: 2021–12
  23. By: Hossein Hosseini; Craig Johnston; Craig Logan; Miguel Molico; Xiangjin Shen; Marie-Christine Tremblay
    Abstract: The Bank of Canada and the Office of the Superintendent of Financial Institutions completed a climate scenario analysis pilot project with the collaboration of six Canadian financial institutions. The project aimed to increase understanding of the financial sector’s potential exposure to risks in transitioning to a low-carbon economy and to help build the capabilities of authorities and financial institutions in assessing climate-related risks. To support the broader financial-sector community in building these capabilities, this report provides detail on the methodologies the pilot used to assess credit and market risks, which were informed by the financial impacts generated by the climate transition scenarios. The method to assess credit risk combined top-down and bottom-up approaches. Variables from the climate transition scenarios were first translated into sector-level financial impacts. The financial institutions then used these impacts to estimate the implications on credit outcomes through borrower-level assessments. Using the transition scenarios’ financial impacts, and the stressed credit outcomes, the project estimated a relationship between climate transition information and credit risk. This was used to calculate expected credit losses at the portfolio level. The method to assess market risk was solely top-down. Using the scenario analysis, the project used a dividend discount model to estimate sectoral equity revaluations, which it then applied to equity portfolio holdings.
    Keywords: Climate change; Financial stability; Econometric and statistical methods; Credit and credit aggregates
    JEL: C C5 C53 C83 G G1 G32
    Date: 2022

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