Taxes, banks and financial stability

In this note, a new concept for a European deposit guarantee scheme is proposed, which takes account of the strong political reservations against a mutualization of the liability for bank deposits. The three-stage model for deposit insurance outlined in the text builds on existing national deposit guarantee schemes, offering loss compensation on a European level and at the same time preventing excessive risk and moral hazard taking by individual banks

Trade credit defaults and liquidity provision by firms

Using a unique data set on trade credit defaults among French firms, we investigate whether and how trade credit is used to relax financial constraints. We show that firms that face idiosyncratic liquidity shocks are more likely to default on trade credit, especially when the shocks are unexpected, firms have little liquidity, are likely to be credit constrained or are close to their debt capacity. We estimate that credit constrained firms pass more than one fourth of the liquidity shocks they face on to their suppliers down the trade credit chain. The evidence is consistent with the idea that firms provide liquidity insurance to each other and that this mechanism is able to alleviate the consequences of credit constraints. In addition, we show that the chain of defaults stops when it reaches firms that are large, liquid, and have access to financial markets. This suggests that liquidity is allocated from large firms with access to outside finance to small, credit constrained firms through trade credit chains

The determinants of bank capital structure

The paper shows that mispriced deposit insurance and capital regulation were of second order importance in determining the capital structure of large U.S. and European banks during 1991 to 2004. Instead, standard cross-sectional determinants of non-financial firms’ leverage carry over to banks, except for banks whose capital ratio is close to the regulatory minimum. Consistent with a reduced role of deposit insurance, we document a shift in banks’ liability structure away from deposits towards non-deposit liabilities. We find that unobserved time-invariant bank fixed effects are ultimately the most important determinant of banks’ capital structures and that banks’ leverage converges to bank specific, time invariant targets. JEL Classification: G32, G21bank capital, capital regulation, capital structure, leverage

Trade credit defaults and liquidity provision by firms

Using a unique data set on trade credit defaults among French firms, we investigate whether and how trade credit is used to relax financial constraints. We show that firms that face idiosyncratic liquidity shocks are more likely to default on trade credit, especially when the shocks are unexpected, firms have little liquidity, are likely to be credit constrained or are close to their debt capacity. We estimate that credit constrained firms pass more than one fourth of the liquidity shocks they face on to their suppliers down the trade credit chain. The evidence is consistent with the idea that firms provide liquidity insurance to each other and that this mechanism is able to alleviate the consequences of credit constraints. In addition, we show that the chain of defaults stops when it reaches firms that are large, liquid, and have access to financial markets. This suggests that liquidity is allocated from large firms with access to outside finance to small, credit constrained firms through trade credit chains. JEL Classification: G30, D92, G20credit chains, credit constraints, inter-firm liquidity provision, trade credit

Bank owners or bank managers: who is keen on risk? Evidence from the financial crisis

In this paper, we analyse whether bank owners or bank managers were the driving force behind the risks incurred in the wake of the financial crisis of 2007/2008. We show that owner controlled banks had higher profits in the years before the crisis, and incurred larger losses and were more likely to require government assistance during the crisis compared to manager-controlled banks. The results are robust to controlling for a wide variety of bank specific, country specific, regulatory and legal variables. Regulation does not seem to mitigate risk taking by bank owners. We find no evidence that profit smoothing drives our findings. The results suggest that privately optimal contracts aligning the incentives of management and shareholders may not be socially optimal in banks. --Banks,risk taking,corporate governance,ownership structure,financial crisis

Deposit insurance, moral hazard and market monitoring

The paper analyses the relationship between deposit insurance, debt-holder monitoring, and risk taking. In a stylised banking model we show that deposit insurance may reduce moral hazard, if deposit insurance credibly leaves out non-deposit creditors. Testing the model using EU bank level data yields evidence consistent with the model, suggesting that explicit deposit insurance may serve as a commitment device to limit the safety net and permit monitoring by uninsured subordinated debt holders. We further find that credible limits to the safety net reduce risk taking of smaller banks with low charter values and sizeable subordinated debt shares only. However, we also find that the introduction of explicit deposit insurance tends to increase the share of insured deposits in banks’ liabilities. JEL Classification: G21, G28banking, Deposit Insurance, Market Monitoring, Moral Hazard

Rating agency actions and the pricing of debt and equity of European banks: What can we infer about private sector monitoring of bank soundness?

The recent consultative papers by the Basel Committee suggest an explicit role for external rating agencies in the assessment of the credit risk of banks' assets. In this context, an assessment of the information contained in credit ratings is important. We address this issue via an event study of rating change announcements by leading international rating agencies, focussing on a sample of European banks. We find no evidence of announcement effects on bond prices. We are largely able to exclude lack of liquidity as an explanation for this puzzling result and suggest some alternatives, such as 'too-big-to-fail.' For equity prices, we find strong effects of unexpected ratings changes and confirm prior evidence that stock prices may react very differently to ratings downgrades, depending on the underlying reason. Overall, our results suggest that ratings agencies may perform a useful role in summarising and obtaining non-public information on banks, at least for stockholders. JEL Classification: G21, G14, G18

Stale information, shocks and volatility

We propose a new approach to measuring the effect of unobservable private information or beliefs on volatility. Using high-frequency intraday data, we estimate the volatility effect of a well identified shock on the volatility of the stock returns of large European banks as a function of the quality of available public information about the banks. We hypothesise that, as the publicly available information becomes stale, volatility effects and its persistance should increase, as the private information (beliefs) of investors become more important. We find strong support for this idea in the data. We argue that the results have implications for debate surrounding the opacity of banks and the transparency requirements that may be imposed on banks under Pillar III of the New Basel Accord --Realized volatility,public information,transparency

Contestability, Technology and Banking

We estimate the effect of internet penetration on retail bank margins in the euro area. Based on an adapted Baumol [1982] type contestability model, we argue that the internet has reduced sunk costs and therefore increased contestability in retail banking. We test this conjecture by estimating the model using semi-aggregated data for a panel of euro area countries. We utilise time series and cross-sectional variation in internet penetration. We find support for an increase in contestability in deposit markets, and no effect for loan markets. The paper suggests that for time and savings deposits, the presence of brick and mortar bank branches may no longer be of first order importance for the assessment of the competitive structure of the market. --Banking structure,Contestability,Internet