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Shadow Banking and Market Discipline on Traditional Banks
We present a model in which shadow banking arises endogenously and undermines market discipline on traditional banks. Depositors' ability to re-optimize in response to crises imposes market discipline on traditional banks: these banks optimally commit to a safe portfolio strategy to prevent early withdrawals. With costly commitment, shadow banking emerges as an alternative banking strategy that combines high risk-taking with early liquidation in times of crisis. We bring the model to bear on the 2008 financial crisis in the United States, during which shadow banks experienced a sudden dry-up of funding and liquidated their assets. We derive an equilibrium in which the shadow banking sector e...
Knightian Uncertainty and Credit Cycles
The Great Recession has been characterised by the two stylized facts: the build-up of leverage in the household sector in the period preceding the recession and a protracted economic recovery that followed. We attempt to explain these two facts as an information friction, whereby agents are uncertain about a new state of the economy following a financial innovation. To this end, we extend Boz and Mendoza (2014) by explicitly modelling the credit markets and by modifying the learning to an adaptive set-up. In our model the build-up of leverage and the collateral price cycles takes longer than in a stylized DSGE model with financial frictions. The boom-bust cycles occur as rare events, with two systemic crises per century. Financial stability is achieved with an LTV-cap regulation which smooths the leverage cycles through quantity (higher equity participation requirement) and price (lower collateral value) effects, as well as by providing an anchor in the learning process of agents.
Changes in the Financing Structure of the Real Economy in Poland - Challenges for the Banking Sector
Significant changes have occurred in the Polish banking sector over the last ten years. In the mid-1990s, due to low market entry requirements, many small private commercial banks, which were frequently established by foreign banks seeking to enter the Polish market, operated alongside state banks. A wave of privatisation occurred in the banking sector, which was followed by a period of consolidation and restructuring. These processes, coupled with a simultaneous increase in foreign investor participation, enhanced management quality and banks' efficiency, primarily with regard to risk management. The changes, which took place in the Polish banking sector in the second half of the 1990s, imp...
Housing Loans Growth, Foreign Currency Risk and Supervisory Response
The spectacular growth of household loans in Poland and in other new member states, particularly in foreign currencies, has attracted particular attention of central banks and supervisors, because of its potential implications to the stability of the banking sector. In the paper, we assess the financial stability risks arising from these exposures using the micro-data form Polish households budget surveys. We define the financial-margin and stress-test every individual household against the financial shocks (interest rate and exchange rate shock) as well as shock on the labour market. We conclude that, in spite of rapid credit growth in the period of 1998-2006 and continuous easing of lendin...
Negative Rates, Monetary Policy Transmission and Cross-border Lending Via International Financial Centres
We study the effects of negative interest rate policies (NIRP) on the transmission of monetary policy through cross-border lending. Using bank-level data from international financial centres - the United Kingdom, Hong Kong and Ireland - we examine how NIRP in the economies where banks have their headquarters influences cross-border lending from financial-centre affiliates. We find that NIRP impairs the bank-lending channel for cross-border lending to non-bank sectors, especially for those banks that have only a weak deposit base in IFCs - and are thus relatively more exposed to NIRP in their headquarters. Using euro-area data, including bank-level data from France, we find that NIRP does not influence overall cross-border lending from banks' headquarters' economies, but NIRP does impair lending to financial sectors based in IFCs. This impairment is stronger for banks with a large deposit base in headquarter economies exposed to NIRP.
Bank Funding Costs and Solvency
This paper investigates the relationship between bank funding costs and solvency for a large sample of euro area banks using two proprietary ECB datasets for both wholesale funding costs and deposit rates. In particular, the paper studies the relationship between bank solvency, on the one hand, and senior bond yields, term deposit rates and overnight deposit rates, on the other. The analysis finds a significant negative relationship between bank solvency and the different types of funding costs. It also shows that this relationship is non-linear, namely convex, for senior bond yields and term deposit rates. It also identifies a positive realistic solvency threshold beyond which the effect of an increase in solvency on senior bond yields becomes positive. The paper also finds that senior bond yields are more sensitive to a change in solvency than deposit rates. Among the deposit rates, the interest rates of the overnight deposits are the least sensitive. Banks' asset quality, profitability and liquidity seem to play only a minor role in driving funding costs while the ECB monetary policy stance, sovereign risk and financial markets uncertainty appear to be material drivers.
Simulating Fire Sales in a System of Banks and Asset Managers
We develop an agent-based model of traditional banks and asset managers to investigate the contagion risk related to fire sales and balance sheet interactions. We take a structural approach to the price formation in fire sales as in Bluhm et al. (2014) and introduce a market clearing mechanism with endogenous formation of asset prices. We find that, first, banks which are active in both the interbank and securities markets may channel financial distress between the two markets. Second, while higher bank capital requirements decrease default risk and funding costs, they make it also more profitable to invest into less-liquid assets financed by interbank borrowing. Third, asset managers absorb small liquidity shocks, but they exacerbate contagion when their voluntary liquid buffers are fully utilised. Fourth, a system with larger and more interconnected agents is more prone to contagion risk stemming from funding shocks.
Cross-border Effects of Prudential Regulation
We analyse the cross-border propagation of prudential regulation in the euro area. Using the Prudential Instruments Database (Cerutti et al., 2017b) and a unique confidential database on balance sheets items of euro-area financial institutions we estimate panel models for 248 banks from 16 euro-area countries. We find that domestic banks reduce lending after the tightening of capital requirements in other countries, while they increase lending when loan-to-value (LTV) limits or reserve requirements are tightened abroad. We also find that foreign affiliates increase lending following the tightening of sector-specific capital buffers in the countries where their parent banks reside and that bank size and liquidity play a role in determining the magnitude of cross-border spillovers.
