Does judicial efficiency lower the cost of credit?

We investigate the effect of judicial efficiency on banks’ lending spreads for a large cross-section of countries. We measure bank interest rate spreads for 106 countries at the country level and for 32 countries at the level of individual banks. We find that judicial efficiency and inflation rates are the main drivers of interest rate spreads across countries. Our results suggest that improvements in judicial efficiency and judicial enforcement of debt contracts are critical to lowering the cost of financial intermediation for households and firms.     

Network centrality and funding rates in the e-MID interbank market

This paper empirically investigates the role of banks’ network centrality in the interbank market on their funding rates. Specifically we analyze transaction data from the e-MID market, the only electronic interbank market in the Euro Area and US, over the period 2006–2009 that encompasses the global financial crisis. We show that interbank spreads are significantly affected by both local and global measures of connectedness. The effects of network centrality increased as the financial crisis evolved. Local measures show that having more links increases borrowing costs for borrowers and reduces premia for lenders. For global network centrality, borrowers receive a significant discount if they increase their intermediation activity and become more central, while lenders pay in general a premium (i.e. receive lower rates) for centrality. This provides evidence of the ‘too-interconnected-to-fail’ hypothesis.     

Self-employment rates and business size: the roles of occupational choice and credit market frictions

Self-employment rates and project size vary greatly across countries. The main message of this paper is that these broad regularities are consistent with an environment in which a common self-employment technology is available worldwide, but where (a) financial intermediation costs and (b) alternatives in “paid” work differ greatly. Our model indicates that alternatives in paid work are crucial for explaining self-employment rates, whereas high financial intermediation costs primarily affect the scale of projects. We also show that credit use is not informative for predicting either rates of self-employment or the scale of self-employment projects.     

The robustness of output measures in property-liability insurance efficiency studies

We empirically examine two methods for measuring output in property-liability insurer efficiency studies: the value-added approach and the “flow” (or financial intermediation) approach. The approaches are not mutually consistent. The value-added approach is closely related to traditional measures of firm performance, but the flow approach is not. In addition, efficient value-added approach firms are less likely to go insolvent, while firms characterized as efficient by the flow approach are generally more likely to fail. We also find that the theoretical concern regarding the value-added approach’s use of losses as a measure of output is not validated empirically.     

Monetary Equilibrium and the Cost of Banking Activity

We investigate the effects of banks' operating costs on allocations and welfare in a low interest rate environment. We introduce an explicit production function for banks in a microfounded model where banks employ labor resources, hired on a competitive market, to run their operations. In equilibrium, this generates a spread between interest rates on loans and deposits, which reflects the underlying monetary policy and the efficiency of financial intermediation. In a deflation or low-inflation environment, equilibrium deposits yield zero returns. Hence, banks soak up labor resources to offer deposits that do not outperform idle balances, thus reducing aggregate efficiency.     

Earnings Quality Measures and Excess Returns

This paper examines how commonly used earnings quality measures fulfill a key objective of financial reporting, i.e., improving decision usefulness for investors. We propose a stock‐price‐based measure for assessing the quality of earnings quality measures. We predict that firms with higher earnings quality will be less mispriced than other firms. Mispricing is measured by the difference of the mean absolute excess returns of portfolios formed on high and low values of a measure. We examine persistence, predictability, two measures of smoothness, abnormal accruals, accruals quality, earnings response coefficient and value relevance. For a large sample of US non‐financial firms over the period 1988–2007, we show that all measures except for smoothness are negatively associated with absolute excess returns, suggesting that smoothness is generally a favorable attribute of earnings. Accruals measures generate the largest spread in absolute excess returns, followed by smoothness and market‐based measures. These results lend support to the widespread use of accruals measures as overall measures of earnings quality in the literature.     

Finance and growth in a bank-based economy: Is it quantity or quality that matters?

Most finance–growth studies approximate the size of financial systems rather than the quality of intermediation to explain economic growth differentials. Furthermore, the neglect of systematic differences in cross-country studies could drive the result that finance matters. We suggest a measure of bank’s intermediation quality using bank-specific efficiency estimates and focus on the regions of one economy only: Germany. This quality measure has a significantly positive effect on growth. This result is robust to the exclusion of banks operating in multiple regions, controlling for the proximity of financial markets, when distinguishing different banking sectors active in Germany, and when excluding the structurally weaker East from the sample.     

Offering Rates on Fixed- and Adjustable-Rate Mortgage Loans

This paper analyzes the macroeconomic determinants of the spread between simultaneous fixed- and adjustable-rate mortgage loan offering rates. Previously developed theoretical relationships are used to construct an econometric model that incorporates both general financial market and region-specific variables. Results indicate that changes in offering rate spreads are positively related to changes in the level and volatility of interest rates and negatively related to changes in variables that proxy for potential default risk.     

Financial sector foreign aid and financial intermediation

The effectiveness of foreign aid is typically measured by the effect of aid on economic growth. Prior literature provides ambiguous results on this effect partly due to the aggregation of aid to different sectors and the small amount of foreign aid relative to the economy in most countries. Because growth in financial intermediation and financial markets has been shown to play a key role in spurring economic growth, in this paper we focus on aid to the financial sector and seek to identify the causal effects of foreign aid to the financial sector on financial intermediation. Using fixed effects OLS and system GMM methods for a panel of countries from 1993 to 2016, we find that foreign aid to the financial sector primarily increases claims on the government sector, and has negative or neutral effect on claims to the private sector and no effect on liquid liabilities of the banking sector and interest rate spread between borrowing and lending rates. This effect persists even after controlling for country institutional characteristics, such as trade openness and rule of law. Thus, foreign aid increases public sector borrowing but does not appear to have any benefits for financial intermediation in the private sector. We verify that the relation is not spurious by using aid to the health sector for falsification tests.     

Firm survival and financial development: Evidence from a panel of emerging Asian economies

Using a panel of five Asian economies - Indonesia, Korea, Malaysia, Singapore and Thailand - over the period 1995-2007 we analyze the links between firm survival and financial development. We find that traditionally used measures of financial development play an important role in influencing firm survival. When stock markets become larger or more liquid firms’ survival chances improve. On the contrary, we show that higher levels of financial intermediation can increase firm failures. We also find that the beneficial effects of stock market development are more pronounced during the later years of our sample, while the adverse effects of bank intermediation have declined over time. Finally, large firms are more likely to benefit from developments in financial markets compared to small firms.     

Systemic risk measures: The simpler the better?

This paper estimates and compares two groups of high-frequency market-based systemic risk measures using European and US interbank rates, stock prices and credit derivatives data from 2004 to 2009. Measures belonging to the macro group gauge the overall tension in the financial sector and micro group measures rely on individual institution information to extract joint distress. We rank the measures using three criteria: (i) Granger causality tests, (ii) Gonzalo and Granger metric, and (iii) correlation with an index of systemic events and policy actions. We find that the best systemic measure in the macro group is the first principal component of a portfolio of Credit Default Swap (CDS) spreads whereas the best measure in the micro group is the multivariate densities computed from CDS spreads. These results suggest that the measures based on CDSs outperform measures based on interbank rates or stock market prices.     

Local Currency Sovereign Risk

We introduce a new measure of emerging market sovereign credit risk: the local currency credit spread, defined as the spread of local currency bonds over the synthetic local currency risk‐free rate constructed using cross‐currency swaps. We find that local currency credit spreads are positive and sizable. Compared with credit spreads on foreign‐currency‐denominated debt, local currency credit spreads have lower means, lower cross‐country correlations, and lower sensitivity to global risk factors. We discuss several major sources of credit spread differentials, including positively correlated credit and currency risk, selective default, capital controls, and various financial market frictions.     

Interest rate management in LDC's

The McKinnon argument that higher Time Deposit rates raise output and lower inflation in the short run and increase medium-term growth by raising the savings rate are shown to depered crucially on the assumption that portfolio shifts into TD's come out of an asset providing less intermediation than the banking system. We show that if instead the shift is out of an asset providing more intermediation (e.g., loans on a curbmarket), raising TD rates is contractionary in the short run, may have negative impacts on growth and can lead to more rather than less inflation in the short run.     

Mutual fund flows and fluctuations in credit and business cycles

Several measures of credit-market booms are known to precede downturns in real economic activity. We offer an early indicator for all known measures of credit booms. Our measure is based on intra-family flow shifts towards high-yield bond mutual funds. It predicts indicators such as growth in financial intermediary balance sheets, increase in shares of high-yield bond issuers, and downturns of various measures of credit spreads. It also directly predicts the business cycle by positively predicting GDP growth and negatively predicting unemployment. Our results provide support for the investor demand-based narrative of credit cycles and can be useful for policymakers.     

Modeling volatility and changes in the swap spread

We investigate the determinants of changes in U.S. interest rate swap spreads using a model that explicitly allows for volatility interactions between swaps of different terms to maturity. Changes in the swap spread are found to be positively related to interest rate volatility, to changes in the default risk premium in the corporate bond market, and to changes in the liquidity premium for government securities. Swap spread changes are negatively related to changes in the level of interest rates and changes in the slope of the term structure. We also find that there is a strong and significant volatility interaction among spreads for swaps of different maturities and that the process for the conditional variance of the spread is highly persistent across all maturities.     

TRADING OF NASDAQ STOCKS ON THE CHICAGO STOCK EXCHANGE

We use a linear programming model to form two portfolios with approximately equal levels of attributes such as financial leverage. One portfolio comprises stocks that trade exclusively on NASDAQ and the other, stocks that trade on both the Chicago Stock Exchange (CSE) and NASDAQ (CSE/NASDAQ). We find that spreads are lower for the CSE/NASDAQ portfolio, but so is the percentage of quotes at spreads of $0.125. In fact, the lower spreads observed for the CSE/NASDAQ portfolio arise from fewer quotes with spreads of more than $0.25.     

Bid-Ask Spreads and Institutional Ownership

This paper examines the relation between bid-ask spreads, measured both as effective and specialist-posted spreads, and institutional ownership. For the overall sample, spreads are negatively related to institutional ownership share. The paper suggests that this effect may be due to some institutions being restricted in their trading, which reduces bid-ask spreads. The paper shows that for certain types of institutions, namely banks and investment managers, the above relation reverses. The results are robust to the inclusion of other firm-specific variables such as size, leverage, and financial distress measures.     

Determinants of bank efficiency during unstable macroeconomic environment: Empirical evidence from Malaysia

The present study investigates for the first time the efficiency of Malaysian banking sector around the Asian financial crisis 1997. The efficiency estimates of individual banks are evaluated by using the Data Envelopment Analysis (DEA) approach. To examine the robustness of the estimated efficiency scores under various alternatives and to differentiate how efficiency scores vary with changes in inputs and outputs, the present study focuses on three major approaches viz., intermediation approach, value added approach, and operating approach. The analysis further links the variation in calculated efficiencies to a set of explanatory variables, i.e. bank size, profitability, and ownership. The empirical findings clearly bring forth the high degree of inefficiency in the Malaysian banking sector, particularly a year after the East Asian crisis. The results suggest that the decline in technical efficiency is more abrupt under the intermediation approach relative to the value added approach and operating approach. The regression results focusing on bank efficiency and other bank specific traits suggest that efficiency is negatively related to expense preference behavior and economic conditions, while bank efficiency is positively related to loans intensity.     

CREDIT SPREADS AND THE ZERO‐COUPON TREASURY SPOT CURVE

We examine the relation between credit spreads on industrial bonds and the underlying Treasury term structure. We use zero‐coupon spot rates to eliminate the coupon bias and to allow for a consistent study both within and across the different credit ratings. Our results indicate that the level and slope of the Treasury term structure are negatively correlated with changes in the credit spread on investment‐grade corporate bonds. We also find that the relation between credit spreads and the Treasury term structure is relatively stable through time. This is good news for value‐at‐risk calculations, as this suggests that the correlations among assets of different credit classes are stable; therefore use of historic correlations to model spread relations can be valid.     

Corporate bond liquidity before and after the onset of the subprime crisis

We analyze liquidity components of corporate bond spreads during 2005-2009 using a new robust illiquidity measure. The spread contribution from illiquidity increases dramatically with the onset of the subprime crisis. The increase is slow and persistent for investment grade bonds while the effect is stronger but more short-lived for speculative grade bonds. Bonds become less liquid when financial distress hits a lead underwriter and the liquidity of bonds issued by financial firms dries up under crises. During the subprime crisis, flight-to-quality is confined to AAA-rated bonds.