The dark side of bank wholesale funding

Banks increasingly use short-term wholesale funds to supplement traditional retail deposits. Existing literature mainly points to the "bright side" of wholesale funding: sophisticated financiers can monitor banks, disciplining bad but refinancing good ones. This paper models a "dark side" of wholesale funding. In an environment with a costless but noisy public signal on bank project quality, short-term wholesale financiers have lower incentives to conduct costly monitoring, and instead may withdraw based on negative public signals, triggering inefficient liquidations. Comparative statics suggest that such distortions of incentives are smaller when public signals are less relevant and project liquidation costs are higher, e.g., when banks hold mostly relationship-based small business loans. JEL Classification: G21, G28, G33Financial crises, liquidity risk, regulation, Wholesale Funding

Capital regulation and tail risk

The paper studies risk mitigation associated with capital regulation, in a context when banks may choose tail risk assets. We show that this undermines the traditional result that higher capital reduces excess risk-taking driven by limited liability. When capital raising is costly, poorly capitalized banks may limit risk to avoid breaching the minimal capital ratio. A bank with higher capital has less chance of breaching the ratio, so may actually take more risk. As a result, banks which have access to tail risk projects may take greater risk when highly capitalized. The results are consistent with stylized facts about pre-crisis bank behavior, and suggest implications for the optimal design of capital regulation

What do we Know About the Effects of Macroprudential Policy, De Nederlandsche Bank Working

Abstract The literature on the effectiveness of macroprudential policy tools is still in its infancy and has so far provided only limited guidance for policy decisions. In recent years, however, increasing efforts have been made to fill this gap. Progress has been made in embedding macroprudential policy in theoretical models. There is increasing empirical work on the effect of some macroprudential tools on a range of target variables, such as quantities and prices of credit, asset prices, and on the amplitude of the financial cycle and financial stability. In this paper we review recent progress in theoretical and empirical research on the effectiveness of macroprudential instruments. Keyword