New Economics Papers
on Financial Markets
Issue of 2010‒05‒08
seven papers chosen by

  1. An Autopsy of the U.S. Financial System By Ross Levine
  2. credit supply, flight to quality and evergreening: an analysis of bank-firm relationships after Lehman By Ugo Albertazzi; Domenico J. Marchetti
  3. Multinational Banking in Europe: Financial Stability and Regulatory Implications. Lessons from the Financial Crisis By Giorgio Barba Navaretti; Giacomo Calzolari; Alberto Franco Pozzolo; Micol Levi
  4. Memory effect and multifractality of cross-correlations in financial markets By Tian Qiu; Guang Chen; Li-Xin Zhong; Xiao-Wei Lei
  5. Bank Runs Without Sunspots By Francisco J. Santos-Arteaga
  6. From Home Bias to Euro Bias: Disentangling the Effects of Monetary Union on the European Financial Markets By Balli, Faruk; Basher, Syed Abul; Ozer-Balli, Hatice
  7. The Greek Debt Crisis: Likely Causes, Mechanics and Outcomes By Arghyrou, Michael G; Tsoukalas, John D.

  1. By: Ross Levine
    Abstract: In this postmortem, I find that the design, implementation, and maintenance of financial policies during the period from 1996 through 2006 were primary causes of the financial system’s demise. The evidence is inconsistent with the view that the collapse of the financial system was caused only by the popping of the housing bubble and the herding behavior of financiers rushing to create and market increasingly complex and questionable financial products. Rather, the evidence indicates that regulatory agencies were aware of the growing fragility of the financial system associated with their policies during the decade before the crisis and yet chose not to modify those policies.
    JEL: E60 G20 G28 H1
    Date: 2010–04
  2. By: Ugo Albertazzi (Bank of Italy); Domenico J. Marchetti (Bank of Italy)
    Abstract: This paper analyzes the effects of the financial crisis on credit supply by using highly detailed data on bank-firm relationships in Italy after Lehman’s collapse. We control for firms’ unobservable characteristics, such as credit demand and borrowers’ risk, by exploiting multiple lending. We find evidence of a contraction of credit supply, associated to low bank capitalization and scarce liquidity. The ability of borrowers to compensate through substitution across banks appears to have been limited. We also document that larger less-capitalized banks reallocated loans away from riskier firms, contributing to credit pro-cyclicality. Such ‘flight to quality’ has not occurred for smaller less-capitalized banks. We argue that this may have reflected, among other things, evergreening practices. We provide corroborating evidence based on data on borrowers' productivity and interest rates at bank-firm level.
    Keywords: credit supply, bank capital, flight to quality, evergreening
    JEL: E44 E51 G21 G34 L16
    Date: 2010–04
  3. By: Giorgio Barba Navaretti (University of Milan and Centro Studi Luca d’Agliano); Giacomo Calzolari (University of Bologna, CEPR and Centro Studi Luca d’Agliano); Alberto Franco Pozzolo (University of Molise, Centro Studi Luca d’Agliano and MoFiR); Micol Levi (Centro Studi Luca d’Agliano)
    Abstract: This paper examines whether multinational banks have a stabilising or a destabilising role during times of financial distress. With a focus on Europe, it looks at how these banks‟ foreign affiliates have been faring during the recent financial crisis. It finds that retail and corporate lending of these foreign affiliates have been stable and even increasing between 2007 and 2009. This pattern is related to the functioning of the internal capital market through which these banks funnel funds across their units. The internal capital market has been an effective tool to support foreign affiliates in distress and to isolate their lending from the local availability of financial resources, notwithstanding the systemic nature of the recent crisis. This effect has been particularly large within the EU integrated financial market and for the EMU countries, thus showing complementarity between economic integration and multinational banks‟ internal capital markets. In light of these findings, this paper supports the call for an integration of the European supervisory and regulatory framework overseeing multinational banks. The analysis is based on an analytical framework which derives the main conditions under which the internal capital market can perform this support function under idiosyncratic and systemic stresses. The empirical evidence uses both aggregate evidence on foreign claims worldwide, and firm-level evidence on the behaviour of banking groups‟ affiliates, compared to standing alone national banks.
    Keywords: multinational banking, financial stability, regulation and supervision, internal capital markets, financial crises
    JEL: G15 G18
    Date: 2010–04–30
  4. By: Tian Qiu; Guang Chen; Li-Xin Zhong; Xiao-Wei Lei
    Abstract: An average instantaneous cross-correlation function is introduced to quantify the interaction of the financial market of a specific time. Based on the daily data of the American and Chinese stock markets, memory effect of the average instantaneous cross-correlations is investigated over different price return time intervals. Long-range time-correlations are revealed, and are found to persist up to a month-order magnitude of the price return time interval. Multifractal nature is investigated by a multifractal detrended fluctuation analysis.
    Date: 2010–04
  5. By: Francisco J. Santos-Arteaga (Universidad Complutense de Madrid,Instituto Complutense de Estudios Internacionales (ICEI))
    Abstract: The literature on bank runs reduces all coordination mechanisms triggering attacks on banks to exogenous sunspots. We present a general equilibrium version of these models where the uncertainty faced by depositors is modeled explicitly, such that bank runs arise as optimal equilibrium outcomes corresponding to Bayesian coordination games played by rational agents before depositing. Differentials in information sets between the bank and its depositors lead to rational self-contained equilibrium runs. The coexistence of different beliefs in equilibrium jointly with the self-fulfilling nature of the attacks follow from Adam Smith's invisible hand principle. The runs obtained do not violate the revelation principle.
    Keywords: Bank runs, Self-contained attacks, Bayesian coordination games, Revelation principle, Invisible hand principle, Pánicos bancarios, Ataques autocontenidos, Juegos de coordinación Bayesianos, Principio de revelación, Principios de la mano invisible.
    Date: 2010
  6. By: Balli, Faruk; Basher, Syed Abul; Ozer-Balli, Hatice
    Abstract: Following the launch of the Euro in 1999, integration among Euro area financial markets increased considerably. As a result, portfolio home bias declined across the European financial markets. However, greater market integration has generated a new bias: portfolio Euro bias, a situation where Euro investors tend to hold large proportion of assets issued within the Euro region. The first part of this paper presents an empirical analysis of the economic factors at play behind the switch from home bias to Euro bias. We find that decline in default risk and transaction cost are two key determinants of the rise in portfolio Euro bias. The second part of the paper goes deeper into the effects of Euro bias on Euro area bond and equity markets. We observe that both government and corporate bond markets revealed clear signs of strain during the recent financial turmoil. Our results also reveal that the risk-reduction potential from geographic diversification within the Euro equity market is lower than that of the Euro sector diversification.
    Keywords: Financial integration; home bias; Euro bias; transaction costs.
    JEL: G11 G12 F21 F36
    Date: 2010–04–30
  7. By: Arghyrou, Michael G (Cardiff Business School); Tsoukalas, John D.
    Abstract: We use insights from the literature on currency crises to offer an analytical treatment of the crisis in the market for Greek government bonds. We argue that the crisis itself and its escalating nature are very likely to be the result of: (a) steady deterioration of Greek macroeconomic fundamentals over 2001-2009 to levels inconsistent with longterm EMU participation; and (b) a double shift in markets. expectations, from a regime of credible commitment to future EMU participation under an implicit EMU/German guarantee of Greek fiscal liabilities, to a regime of non-credible EMU commitment without fiscal guarantees, respectively occurring in November 2009 and February/March 2010. We argue that the risk of contagion to other periphery EMU countries is significant; and that without extensive structural reforms the sustainability of the EMU is in question.
    Keywords: Currency crises; bonds market; expectations; fiscal guarantees; contagion
    JEL: F31 F33 F34 F41 F42 F50
    Date: 2010–04

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