Initial Margin Requirements, Volatility, and the Individual Investor: Insights from Japan

Initial margin requirements represent: (1) a cost impediment to the wealth constrained investor and (2) a potential way of mitigating excessive volatility. However, prior empirical research finds that margins are not an effective tool in reducing volatility. We consider the possibility that margins primarily affect certain stocks and investors. Specifically, we test whether margins affect individuals who, as a group, we believe to be the investors most affected when margin requirements change. Our initial empirical tests, however, do not support this contention.     

Cost-benefit analysis of leaning against the wind

An obvious cost of “leaning against the wind” is a weaker economy if no (financial) crisis occurs. Possible benefits are lower probabilities and smaller magnitudes of crises. A second cost—less obvious, previously overlooked, but higher—is a weaker economy if a crisis occurs. For representative estimates, costs exceed benefits by substantial margins. Overturning the result requires policy-rate effects on the probability and magnitude of crises more than 5–40 standard errors larger than representative estimates. Higher probabilities, larger magnitudes, or longer durations of crises—typical consequences of ineffective macroprudential policy—increase the margin of costs over benefits     

An Empirical Analysis of Futures Margin Changes: Determinants and Policy Implications

Margin regulation raises two policy concerns. First, an alignment of margins to volatility can amplify procyclicality, leading to a build-up of excess leverage in good times and a forced deleverage in bad times. Second, competition among central counterparties (CCPs) can result in lower margin levels in order to attract more trading volume, which is referred to as a “race to the bottom.” Motivated by these issues, we empirically analyze the determinants of margin changes by using a data set of various futures margins from Chicago Mercantile Exchange (CME) Group. We first find that CME Group raises margins quickly following volatility spikes but does not immediately lower margins following volatility declines, implying that margin-induced procyclicality is more of a concern in recessions than in expansions. In addition, we find some evidence that the margin difference between CME Group and its competitor, Intercontinental Exchange (ICE), is an important driver of margin changes after changes in other margin determinants are controlled for, implying that competition may be factored into margin setting.     

Benchmarks in Search Markets

We characterize the role of benchmarks in price transparency of over‐the‐counter markets. A benchmark can raise social surplus by increasing the volume of beneficial trade, facilitating more efficient matching between dealers and customers, and reducing search costs. Although the market transparency promoted by benchmarks reduces dealers' profit margins, dealers may nonetheless introduce a benchmark to encourage greater market participation by investors. Low‐cost dealers may also introduce a benchmark to increase their market share relative to high‐cost dealers. We construct a revelation mechanism that maximizes welfare subject to search frictions, and show conditions under which it coincides with announcing the benchmark.     

How to make regulators and shareholders happy under Basel III

In addition to the Basel II capital ratio, Basel III requires banks to respect additional ratios, such as leverage ratio, liquidity coverage ratio and net stable funding ratio. Banks are required to be compliant with all four constraints simultaneously. Our article provides a framework for banks to help their search for an optimal transition from Basel II to Basel III. Recognizing that banks’ return and the four constraints are of linear type, this search can be formulated as a linear program and solved by standard software. Incorporating uncertainty on future defaults, risk weights and withdrawals and formulating the problem as a Chance constrained model does not only yield optimal transition strategies but also determines the internal thresholds for the Basel III-ratios. Our approach needs two standard inputs from controlling: profit margins per product and non-financial adjustment costs to expand or cut back business. The adjustment cost can be used to calibrate the model to the current business mix. This calibration can be done by bank outsiders and allows the model to be used in impact studies to replace ad hoc strategies. To highlight its practicality, we apply our model to a typical German bank with a business mix that complies with Basel II, but not with the Basel III-, capital-, leverage- and net stable funding-ratio. Assuming that its business model is optimal under Basel II, we find that this bank would achieve compliance restructuring its funding side by replacing interbank funding by capital and retail deposits. Additional uncertainty would amplify the magnitude of the changes, but would still affect the same positions. These findings are robust against alternative margin definitions and adjustment cost levels.     

Vital truths about managing your costs

Four truths apply to every business situation: 1. It is essential to be a lower cost supplier. 2. To stay competitive, inflation-adjusted costs of producing and supplying products and services must trend downward. 3. The true cost and profit pictures for each product/market segment must always be known, and traditional accounting practices must not obscure them. 4. A business must concentrate as much on cash flow and balance-sheet strengths as it does on profits. In order to ascertain exactly what your costs are, you must carefully isolate and assign various costs to specific products, accounts, or markets. Managers often do this badly, working on the basis of "average" costs. This ignores important differences among products and the fact that different products, different markets, and different customers incur different overhead costs. Most manufacturing companies' most important expense categories are R&D, sales, and general and administrative costs, but surprisingly, they generally don't get the attention they should. Neither do two crucial ratios-gross margin and the percent of assets employed per dollar of sales. Gross margins should usually not be less than 40%, and for most manufacturing companies, assets should not be over 60% of annual sales. Wrong deviation from these ratios will undermine profit targets. Once your costs are known and clearly assigned to product lines, markets, and key customers, they should be widely shared in the organization so that everyone will feel committed to cost management and know when deviations occur.     

Risk aversion and price limits in futures markets

Assuming that a representative trader is risk-neutral, Brennan [1986. Journal of Financial Economics 16, 213–233] shows that price limits, in conjunction with margins, may help reduce the default risk, lower the margin requirement, and decrease the total contract cost. We show that Brennan's result is true only when the trader's degree of risk aversion is low and the precision of additional information about the equilibrium futures price is also low. When the trader either is more risk-averse or can receive precise information, price limits become ineffective in either reducing the default probability, cutting down the margin requirement, or lowering the contract cost.     

Margins and Price Limits in Taiwan's Stock Index Futures Market

This study extends the framework of Brennan (1986) to find the cost-minimizing combination of spot limits, futures limits, and margins for stock and index futures in the Taiwan market. Our empirical results show that the cost-minimization combination of margins, spot price limits, and futures price limits is 7 percent, 6 percent, and 6 percent, respectively, when the index level is less than 7,000. When the index level ranges from 7,000 to 9,000, the efficient futures contract calls for a combination of 6.5 percent, 5 percent, and 6 percent. The optimal margin, reneging probability, and corresponding contract cost are less than those without price limits. Price limits may partially substitute for margin requirements in ensuring contract performance, with a default risk lower than the 0.3 percent rate that is accepted by the Taiwan Futures Exchange. On the other hand, though imposing equal price limits of 7 percent on both the spot and futures markets does not coincide with the efficient contract design, it does have a lower contract cost and margin requirement (7.75 percent) than that without imposing price limits (8.25 percent).     

Does OTC derivatives reform incentivize central clearing?

Regulatory changes in the over-the-counter (OTC) derivatives market seek to reduce systemic risk. The reforms require that standardized derivatives be cleared through central counterparties (CCPs), and they set higher capital and margin requirements for non-centrally cleared derivatives. We investigate whether these requirements create a cost incentive in favor of central clearing, as intended. We compare the total capital and collateral costs when banks transact fully bilaterally and when they clear all contracts through CCPs. We calibrate our model using data on the OTC market collected by the Federal Reserve. We find that the cost incentive may not favor central clearing. The main factors driving the cost comparison are netting benefits, the margin period of risk, and CCP guarantee fund requirements. Lower guarantee fund requirements lower the cost of clearing but make CCPs less resilient.     

A Comparison of Underwriting Costs of Initial Public Offerings by Investment and Commercial Banks

We examine differences in underwriting costs between commercial‐bank‐Section‐20‐underwritten initial public offerings (IPOs) and investment‐bank‐underwritten IPOs. Our results suggest that total underwriting costs (gross margin plus underpricing) are significantly lower for commercial bank IPOs. The lower cost for commercial bank IPOs is attributable to less severe underpricing for these issues. Gross margin costs generally do not differ between commercial bank and investment bank issues. Furthermore, we find that the long‐run stock price performance for commercial bank issues is superior to that of investment bank issues. That is, lower underpricing for Section 20 issues may not be a short‐run phenomenon. Rather, there appears to be a favorable outcome for investors in the long run for holding IPOs underwritten by Section 20 commercial banks. These results are inconsistent with the conflict of interest hypothesis often associated with merging commercial and investment bank functions in one organization.     

On the determinants of bank interest margins under credit and interest rate risks

This paper explores the determinants of optimal bank interest margins based on a simple firm-theoretical model under multiple sources of uncertainty and risk aversion. The model demonstrates how cost, regulation, credit risk and interest rate risk conditions jointly determine the optimal bank interest margin decision. We find that the bank interest margin is positively related to the bank's market power, to the operating costs, to the degree of credit risk, and to the degree of interest rate risk. An increase in the bank's equity capital has a negative effect on the spread when the bank faces little interest rate risk. The effect of rising interbank market rate on the spread is ambiguous and depends on the net position of the bank in the interbank market. Our findings provide alternative explanations for the empirical evidence concerning bank spread behavior.     

Financial Sector transparency and net interest margins: Should the private or public Sector lead financial Sector transparency?

This study examines the effect of private and public sector led financial sector transparency on bank interest margins across eighty-six economies. Using a two-step dynamic system generalized method of moments, least square dummy variables, fixed effects and bootstrap quantile panel models between 2005 and 2016, the findings of the two-step GMM are reported as follows. First, results reveal that financial sector transparency whether led by private or public sector reduces interest margins. Second, while no statistical evidence was found on which of the two (private or public sector led transparency) is more effective in dealing with bank interest margins, public sector-led financial transparency is found to be more consistent in reducing bank interest margins across many more economies. Third, the study shows that the effect of financial sector transparency is visible at lower and middle levels of bank interest margins implying that economies with lower and moderately high bank interest margin level can benefit more from policies targeted at improving transparency in the financial sector. These findings imply that the sampled countries must enact policies and laws that deepen and expand financial sector transparency in order to potentially reduce bank interest margins for the good of banking market participants and society at large.     

Interest margins and bank regulation in Central America and the Caribbean

This paper examines empirically the determinants of bank interest margins in Central America and the Caribbean over the period 1998–2014. A particular focus is set on the impact of differences in the regulatory environment and market structure across countries in explaining the interest margins of individual banks. Our results suggest that bank market power, operating costs, credit risk, and liquid asset holdings increase the margin between loan and deposit rates, while increased income diversification and GDP growth are associated with lower loan-deposit spreads. When considering information on banking regulation, we find strong evidence to support our main hypothesis that improvements in market quality and liberalization have a significant effect on interest margins. More specifically, reductions in entry requirements to banking, higher involvement of foreign banks, and increased financial statement transparency are associated with significant reductions in interest margins.     

Rent control with rationing by search costs: A note

This note derives the long-run implications of rent controls when rent-controlled apartments are implicitly rationed to tenants who are more efficient in searching for apartments in the controlled sector. Rent controls are shown to involve transfers that essentially are from some to other tenants, as well as dead-weight losses due to higher search costs that are borne by tenants. Key to this analysis is the condition that, at the margin, rent plus the higher cost of search for a rent-controlled apartment must equal rent in the noncontrolled sector.     

The determinants of net interest income in the Mexican banking system: An integrated model

This paper analyzes net interest income in the Mexican banking system over the period 1993–2005. Taking as reference the seminal work by Ho and Saunders [Ho, T., Saunders, A., 1981. The determinants of banks interest margins: theory and empirical evidence. Journal of Financial and Quantitative Analysis XVI (4), 581–600] and subsequent extensions by other authors, our study models the net interest margin simultaneously including operating costs and diversification and specialization as determinants of the margin. The results referring to the Mexican case show that its high margins can be explained mainly by average operating costs and by market power. Although non-interest income has increased in recent years, its economic impact is low.     

Predation and its rate of return: the sugar industry, 1887–1914

We show that the price wars following two major entry episodes were predatory. Our proof is twofold: by direct comparison of price to marginal cost, and by construction of a lower bound to predicted competitive price‐cost margins that we show to exceed observed margins. Predation occurred only when its relative cost to the dominant firm, the American Sugar Refining Company (ASRC), was small. Its most clear effect was to lower the acquisition price of entrants and small incumbents. It may also have deterred future capacity additions and raised ASRC's share of industry profits. Predation operated by strengthening ASRC's reputation as a willing predator.     

劳动保护、社保压力与企业违约风险——基于《社会保险法》实施的研究

本文利用2011年《社会保险法》实施的政策冲击所造成的准自然实验情境构建双重差分模型,考察了劳动保护对上市公司债务违约风险的影响。研究发现,劳动保护加强后,劳动密集型企业的违约风险显著提升了约1.5%。在此基础上,进一步检验了劳动保护影响企业违约风险的渠道,发现劳动保护提高了企业的经营性负债水平,并最终提高了违约风险。此外,在国有企业、融资约束水平较高、信息披露水平较低和创新水平较低的企业,劳动保护对企业违约风险的影响更加显著。本文拓展了劳动保护经济后果的研究,也为评价《社会保险法》的政策后果提供了新的经验证据。本研究可为"新冠"疫情期间政府制定政策减免企业社保支出提供参考。     

Business cycle and cost structure

This paper examines whether and how the business cycle affects a firm's cost structure decisions. Using annual data from a large sample of Chinese manufacturing firms over the period of 1998–2018, we find that firms choose a more elastic cost structure with higher variable and lower fixed costs, in recession than in boom periods. We also find that the positive association between recession and cost elasticity is more pronounced in firms in cyclical industries. Further, our mediating effects analysis suggests that managers' expectations regarding future sales and a firm's resource availability are two specific channels by which the business cycles affect a firm's cost structure. Our results also hold after a battery of robustness checks.     

融资约束与中国企业的进口行为

本文采用贸易四元边际的分析框架,实证分析了融资约束对企业进口行为的影响,并对比了非金融危机、金融危机背景下融资约束对企业进口行为影响的差异性。主要发现:(1)融资约束对企业进口决策存在显著的抑制作用,融资约束会显著抑制企业的进口行为,包括进口规模、进口来源国数量、进口产品种类。(2)相对于外资企业,内资企业的进口行为更容易受融资约束的影响;相对于一般贸易,企业的加工贸易进口更容易受融资约束的影响;相对于只进口的企业,同时具有进口和出口行为的企业更容易受到融资约束的影响。另外,不同行业的企业、不同地区的企业受融资约束的影响也具有较大的差异。(3)不同的外部金融环境导致融资约束对企业进口行为的影响存在显著差异。金融危机导致企业的进口行为对融资约束表现出更强的敏感性,高融资约束企业与低融资约束企业在进口四元边际上的差距被进一步拉大。     

The short-term effects of foreign bank entry on domestic bank behaviour: Does economic development matter?

This paper investigates the short-term effects of foreign bank entry on the behaviour of the domestic banking sector. We hypothesise that these effects are dependent on the level of economic development of the host country. Our investigation shows that at lower levels of economic development foreign bank entry is generally associated with higher costs and margins for domestic banks. At higher levels of economic development the effects appear to be less clear: foreign bank entry is either associated with a fall of costs, profits and margins of domestic banks, or is not associated with changes in these domestic bank variables.