Risk and Return - Is there an Unholy Cycle of Ratings and Yields?
Makram El-Shagi, Gregor von Schweinitz
Economics Letters,
2015
Abstract
After every major financial crisis, the question about the responsibility of the rating agencies resurfaces. Regarding government bonds, the most frequently voiced concern targeted “unreasonably” bad ratings that might trigger capital flights and increasing risk premia which sanction further rating downgrades. In this paper we develop a multivariate, nonparametric version of the Pesaran type cointegration model that allows for nonlinearities, to show that a unique equilibrium between ratings and sovereign yields exists. Therefore, we have to reject the concern that there is an unholy cycle leading to certain default in the long run.
Read article
Linking Distress of Financial Institutions to Macrofinancial Shocks
Alexander Al-Haschimi, Stéphane Dées, Filippo di Mauro, Martina Jančoková
ECB Working Paper,
No. 1749,
2014
Abstract
This paper links granular data of financial institutions to global macroeconomic variables using an infinite-dimensional vector autoregressive (IVAR) model framework. The approach taken allows for an assessment of the two-way links between the financial system and the macroeconomy, while accounting for heterogeneity among financial institutions and the role of international linkages in the transmission of shocks. The model is estimated using macroeconomic data for 21 countries and default probability estimates for 35 euro area financial institutions. This framework is used to assess the impact of foreign macroeconomic shocks on default risks of euro area financial firms. In addition, spillover effects of firm-specific shocks are investigated. The model captures the important role of international linkages, showing that economic shocks in the US can generate a rise in the default probabilities of euro area firms that are of a significant magnitude compared to recent historical episodes such as the financial crisis. Moreover, the potential heterogeneity across financial firms.
Read article
Financial Stability and Central Bank Governance
Michael Koetter, Kasper Roszbach, G. Spagnolo
International Journal of Central Banking,
No. 4,
2014
Abstract
The financial crisis has ignited a debate about the appropriate objectives and the governance structure of Central Banks. We use novel survey data to investigate the relation between these traits and banking system stability focusing in particular on their role in micro-prudential supervision. We find that the separation of powers between single and multiple bank supervisors cannot explain credit risk prior or during the financial crisis. Similarly, a large number of Central Bank governance traits do not correlate with system fragility. Only the objective of currency stability exhibits a significant relation with non-performing loan levels in the run-up to the crisis. This effect is amplified for those countries with most frequent exposure to IMF missions in the past. Our results suggest that the current policy discussion whether to centralize prudential supervision under the Central Bank and the ensuing institutional changes some countries are enacting may not produce the improvements authorities are aiming at. Whether other potential improvements in prudential supervision due to, for example, external disciplinary devices, such as IMF conditional lending schemes, are better suited to increase financial stability requires further research.
Read article
Executive Compensation Structure and Credit Spreads
Stefano Colonnello, Giuliano Curatola, Ngoc Giang Hoang
Abstract
We develop a model of managerial compensation structure and asset risk choice. The model provides predictions about how inside debt features affect the relation between credit spreads and compensation components. First, inside debt reduces credit spreads only if it is unsecured. Second, inside debt exerts important indirect effects on the role of equity incentives: When inside debt is large and unsecured, equity incentives increase credit spreads; When inside debt is small or secured, this effect is weakened or reversed. We test our model on a sample of U.S. public firms with traded CDS contracts, finding evidence supportive of our predictions. To alleviate endogeneity concerns, we also show that our results are robust to using an instrumental variable approach.
Read article
Should I Stay or Should I Go? Bank Productivity and Internationalization Decisions
Claudia M. Buch, C. T. Koch, Michael Koetter
Journal of Banking and Finance,
No. 42,
2014
Abstract
Differences in firm-level productivity explain international activities of non-financial firms quite well. We test whether differences in bank productivity determine international activities of banks. Based on a dataset that allows tracking banks across countries and across different modes of foreign entry, we model the ordered probability of maintaining a commercial presence abroad and the volume of banks’ international assets empirically. Our research has three main findings. First, more productive banks are more likely to enter foreign markets in increasingly complex modes. Second, more productive banks also hold larger volumes of foreign assets. Third, higher risk aversion renders entry less likely, but it increases the volume of foreign activities conditional upon entry.
Read article
Interbank Lending and Distress: Observables, Unobservables, and Network Structure
Ben Craig, Michael Koetter, U. Krüger
Deutsche Bundesbank Discussion Paper, No. 18/2014,
No. 18,
2014
Abstract
We provide empirical evidence on the relevance of systemic risk through the interbank lending channel. We adapt a spatial probit model that allows for correlated error terms in the cross-sectional variation that depend on the measured network connections of the banks. The latter are in our application observed interbank exposures among German bank holding companies during 2001 and 2006. The results clearly indicate significant spillover effects between banks’ probabilities of distress and the financial profiles of connected peers. Better capitalized and managed connections reduce the banks own risk. Higher network centrality reduces the probability of distress, supporting the notion that more complete networks tend to be more stable. Finally, spatial autocorrelation is significant and negative. This last result may indicate too-many-to-fail mechanics such that bank distress is less likely if many peers already experienced distress.
Read article
Is Subsidizing Companies in Difficulties an Optimal Policy? An Empirical Study on the Effectiveness of State Aid in the European Union
Nicole Nulsch
IWH Discussion Papers,
No. 9,
2014
Abstract
Even though state aid in order to rescue or restructure ailing companies is regularly granted by European governments, it is often controversially discussed. The aims for rescuing companies are manifold and vary from social, industrial and even political considerations. Well-known examples are Austrian Airlines (Austria) or MG Rover (Great Britain). Yet, this study aims to answer the question whether state aid is used effectively and whether the initial aim why aid has been paid has been reached, i.e. the survival of the company. By using data on rescued companies in the EU and applying a survival analysis, this paper investigates the survival rates of these companies up to 15 years after the aid has been paid. In addition, the results are compared to the survival rates of non-rescued companies which have also been in difficulties. The results suggest that despite the financial support, business failure is often only post-poned; best survival rates have firms with long-term restructuring, enterprises in Eastern Europe, smaller firms and mature companies. However, non-funded companies have an even higher ratio to go bankrupt.
Read article
Taxing Banks: An Evaluation of the German Bank Levy
Claudia M. Buch, Björn Hilberg, Lena Tonzer
Abstract
Bank distress can have severe negative consequences for the stability of the financial system, the real economy, and public finances. Regimes for restructuring and restoring banks financed by bank levies and fiscal backstops seek to reduce these costs. Bank levies attempt to internalize systemic risk and increase the costs of leverage. This paper evaluates the effects of the German bank levy implemented in 2011 as part of the German bank restructuring law. Our analysis offers three main insights. First, revenues raised through the bank levy are minimal, because of low tax rates and high thresholds for tax exemptions. Second, the bulk of the payments were contributed by large commercial banks and the head institutes of savings banks and credit unions. Third, the levy had no effect on the volume of loans or interest rates for the average German bank. For the banks affected most by the levy, we find evidence of fewer loans, higher lending rates, and lower deposit rates.
Read article
Spillover Effects among Financial Institutions: A State-dependent Sensitivity Value-at-Risk Approach
Z. Adams, R. Füss, Reint E. Gropp
Journal of Financial and Quantitative Analysis,
No. 3,
2014
Abstract
In this paper, we develop a state-dependent sensitivity value-at-risk (SDSVaR) approach that enables us to quantify the direction, size, and duration of risk spillovers among financial institutions as a function of the state of financial markets (tranquil, normal, and volatile). For four sets of major financial institutions (commercial banks, investment banks, hedge funds, and insurance companies) we show that while small during normal times, equivalent shocks lead to considerable spillover effects in volatile market periods. Commercial banks and, especially, hedge funds appear to play a major role in the transmission of shocks to other financial institutions.
Read article
