Interbank contagion risk in China under an ABM approach for network formation

This paper uses an agent-based model to construct an interbank network for the Chinese interbank market using a sample of 299 commercial banks from 2014 to 2019. We analyze the importance and vulnerability of banks using the DebtRank algorithm. Our results show that the Chinese interbank market bears a certain level of systemic risk, especially among lower-tiered banks. The results also show a bank is more vulnerable if it has a higher interbank lending ratio and greater financial connectivity. Meanwhile, a bank is more influential if it has a larger net worth and greater financial connectivity.     

Deposit market competition,wholesale funding,and bank risk

Empirical research on the effect of bank competition on bank risk has so far produced very inconclusive results. In this paper we revisit this long-standing debate and propose a new empirical approach that is concentrated on the relationship between deposit market competition and bank risk. This approach closely follows the traditional theoretical views of the competition and risk relationship and is focused on testing the classical moral hazard problem of the bank: deposit market competition raises the optimal risk choice of the bank by raising the costs of bank liabilities. Since banks can substitute between retail and wholesale funding, we relate deposit market competition to wholesale market conditions and examine their joint effect on the risk of bank assets. The analysis is based on a unique, comprehensive dataset, which combines retail deposit rate data with data on bank characteristics and data on local deposit market features for a sample of 589 US banks. Our results support the notion of a risk-enhancing effect of deposit market competition.     

Short-term wholesale funding and systemic risk: A global CoVaR approach

We use the CoVaR approach to identify the main factors behind systemic risk in a set of large international banks. We find that short-term wholesale funding is a key determinant in triggering systemic risk episodes. In contrast, we find weaker evidence that either size or leverage contributes to systemic risk within the class of large international banks. We also show that asymmetries based on the sign of bank returns play an important role in capturing the sensitivity of system-wide risk to individual bank returns. Since short-term wholesale funding emerges as the most relevant systemic factor, our results support the Basel Committee’s proposal to introduce a net stable funding ratio, penalizing excessive exposure to liquidity risk.     

Sovereign risk spillovers: A network approach

Understanding the global financial network for sovereign debt, particularly with a focus on interaction and spillover effects of sovereign risk, has become important for policy makers as they look to protect the stability of their economies. Using high dimensional Vector Autoregression techniques and network simulation on Sovereign Credit Default Swaps (CDS)’ data of 57 countries, we identify that the global sovereign CDS network is fully integrated as there is virtually no country without any connection to at least one specific node in the system. However, each country has a unique attribute in the network, as a risk exporter or importer and/or risk transmitter. Among developed countries, the US (unsurprisingly) holds the dominant position as a risk exporter while Germany is identified as a connecting country that transmits shocks. The most connected countries in the sovereign CDS network belong to the new European Union members. We examine possible drivers of the network relationships observed, in order to better understand the risk transmission process, and find that connections in the sovereign risk network are stronger within regional groups and countries with the same level of economic development. Central and Eastern Europe and Middle East and Africa have more interactive networks than Northern Western Europe, Asia Pacific and Latin America. We also identify that financial volatility and economic policy uncertainty increase the interactions in market-based default risk assessment.     

The funding of subsidiaries equity,double leverage and the risk of bank holding companies

Banking groups exploit double leverage when ‘debt is issued by the parent company and the proceeds are invested in subsidiaries as equity’. Financial authorities have frequently raised concerns about the issue of double leverage because this type of intra‐firm financing appears to allow for both the arbitrage of capital and the assumption of risk. This article focuses on the relationship between double leverage and risk‐taking within banking groups. First, we discuss this relationship based on an examination of balance sheet figures. Second, we analyze a large sample of United States Bank Holding Companies (BHCs) from 1990–2014. The results show that BHCs are more prone to risk when they increase their double leverage, namely, when the stake of the parent within subsidiaries is larger than the stand‐alone capital of the parent. This paper's primary implication for policymakers is that the regulators of complex financial entities should more efficiently address the issue of double leverage, thereby limiting the potential negative consequences that arise from corporate instability.     

Financial crises,bank risk exposure and government financial policy

A macroeconomic model with financial intermediation is developed in which the intermediaries (banks) can issue outside equity as well as short term debt. This makes bank risk exposure an endogenous choice. The goal is to have a model that can not only capture a crisis when banks are highly vulnerable to risk, but can also account for why banks adopt such a risky balance sheet in the first place. We use the model to assess quantitatively how perceptions of fundamental risk and of government credit policy in a crisis affect the vulnerability of the financial system ex ante. We also study the effects of macro-prudential policies designed to offset the incentives for risk-taking.     

Understanding resource deployment efficiency for ESG and financial performance: A DEA approach

COVID-19 has stimulated additional research interest on economic sustainability and ESG in both academia and industry. This study adopts a DEA approach to examine the efficiency of achieving ESG targets and their relationships with financial performance. Using MSCI ESG data from 2015 to 2019 on 1108 Chinese firms, we examine the ESG proportional and pillar mix efficiencies. The dominant strategies for our sampled firms are to improve overall ESG performance by enhancing the E and S pillars through sacrificing G’s performance. The second result shows a positive relationship between proportional efficiency and financial performance while a mixed relationship between pillar mix efficiency and financial performance. However, for the technology sector, there exists some trade-offs between ESG performance and financial performance. Specifically, relative to non-technology firms, improving proportional and pillar mix efficiencies for technology firms could result in some sacrifice in stock valuation.     

Estimating the degree of operating efficiency gains from a potential bank merger and acquisition: A DEA bootstrapped approach

We propose a bootstrapped Data Envelopment Analysis (DEA)-based procedure to pre-calculate and pre-evaluate the short-run operating efficiency gains of a potential bank merger or acquisition (M&A). As an illustrative example, we apply our proposed procedure to investigate the degree of operating efficiency gains of 45 possible bank M&As in the Greek banking industry over the period from 2007 to 2011. The results reveal that a year before and a year after the initiation of the Greek fiscal crisis, the majority of the potential bank M&As under examination were unable to generate short-run operating efficiency gains. In addition, our results for 2011 indicate that the majority of bank M&As can lead to short-run operating efficiency gains. Finally, the empirical findings support the view that a merger or acquisition between efficient banks does not ensure an efficient bank M&A.     

Resolving the deposit dilemma: A new DEA bank efficiency model

One of the weaknesses of current bank efficiency models is a disagreement as to the role of deposits in the bank production process. Some models view deposits as an input, while others view them as an output. Such disparity of approaches results in inconsistent efficiency estimates. In this study we propose an alternative Data Envelopment Analysis (DEA) bank efficiency model that treats deposits as an intermediate product, thus emphasizing the dual role of deposits in the bank production process. Consequently, the effect of the amount of deposits on bank efficiency depends on the efficiency at both stages of the bank production process. The main advantage of our model is that it does not require a researcher to make a judgment call as to whether having more (production approach) or less (intermediation approach) deposits is “better” for bank efficiency. Our unified framework has the potential to produce more consistent efficiency estimates.     

Independence in bank governance structure: Empirical evidence of effects on bank risk and performance

We investigate how different governance arrangements affect risk and return in banks. Using a new data set for UK banks over the period 2003–2012, we employ a simultaneous equations framework to control for the reciprocal relationship between risk and return. We show that separation of the roles of CEO and Chairman increases bank risk without causing a concurrent increase in return. We also find that oversight by a Remuneration Committee and Non-Executive Directors (NEDs) lowers the probability of bank failure, indicating that empowering an independent Chairman has different effects from empowering independent NEDs. Overall, our results underline the importance of accounting for the heterogeneity in corporate governance arrangements within banks.     

Capital ratios and bank lending: A matched bank approach

This paper examines the impact of bank capital ratios on bank lending by comparing differences in loan growth to differences in capital ratios at sets of banks that are matched based on geographic area as well as size and various business characteristics. We argue that such comparisons are most effective at controlling for local loan demand and other environmental factors. For comparison we also control for local factors using MSA fixed effects. We find, based on data from 2001 to 2011, that the relationship between capital ratios and bank lending was significant during and shortly following the recent financial crisis but not at other times. We find that the relationship between capital ratios and loan growth is stronger for banks where loans are contracting than where loans are expanding. We also show that the elasticity of bank lending with respect to capital ratios is higher when capital ratios are relatively low, suggesting that the effect of capital ratio on bank lending is nonlinear. In addition, we present findings on the relationship between bank capital and lending by bank size and loan type.     

Business model contributions to bank profit performance: A machine learning approach

This paper examines the relation between bank profit performance and business models, using a machine learning–based approach. The analysis contributes to the literature on this relation by considering the bank portfolio’s ability to yield profits as the identification criterion of strategic profiles and by including all the components of the business model simultaneously in the identification process. Our research strategy is applied to the European Union banking system from 1997 to 2021. The paper’s primary finding indicates that specialization seems to be a strategy that results in banks adopting business profiles with better profit performance, particularly if the banks specialize in the standard retail-oriented model.     

Environmental disclosure and environmental risk: Sceptical attitudes of UK sell-side bank analysts

In responding to the mixed evidence on the decision-usefulness of environmental disclosures to capital market participants, this paper examines the decision-usefulness, to sell-side bank analysts, of annual report environmental narratives. In doing so it focuses mainly on the materiality of environmental reporting and the perceived importance of environmental risks in the assessment of bank risk profile and valuation. Noting that banks themselves have recognised the importance of environmental filtration of loan decisions, this paper seeks to examine the attitudes of a prominent reporting user group (19 London-based sell-side bank analysts) towards environmental reporting and the materiality of environmental risks. Findings showed that recognition of the materiality of environmental risks in banks is uncommon among sell-side analysts and that environmental narratives are often ignored and regarded as perfunctory. The findings are discussed in terms of the role of analysts in the reporting information ‘supply chain’ and how the analysts’ frame of reference may limit the inclusion of longer-term issues, such as the environment, in their analysis.     

The performance of insolvency prediction and credit risk models in the UK: A comparative study

Theoretically-driven, market-based contingent claims models have recently been applied to the field of corporate insolvency prediction in an attempt to provide the art with a theoretical methodology that has been lacking in the past. Limited studies have been carried out in order directly to compare the performance of these models with that of their accounting number-based counterparts. We use receiver operating characteristic curves to assess the efficacy of thirteen selected models using, for the first time, post-IFRS UK data; and investigate the distributional properties of model efficacy. We find that the efficacy of the models is generally less than that reported in the prior literature; but that the contingent claims models outperform models which use accounting numbers. We also obtain the counter-intuitive finding that predictions based on a single variable can be as efficient as those which are based on models which are far more complicated – in terms of variable variety and mathematical construction. Finally, we develop and test a naïve version of the down-and-out-call barrier option model for insolvency prediction and find that, despite its simple formulation, it performs favourably compared alongside other contingent claims models.     

Financial liberalisation,crisis, and restructuring: A comparative study of bank performance and bank governance in South East Asia

This paper examines the impact of changes in bank governance on bank performance for a sample of commercial banks operating in SE Asia between 1990 and 2003. We identify bank governance in terms of bank ownership and measure bank performance as rank order alternative profit efficiency, technical change, and productivity. The period was characterised by financial deregulation, the Asian crisis and bank restructuring programmes. To resolve financial distress, SE Asian authorities implemented inter alia bank privatisation programmes and widened access for foreign ownership. Our results tend to support bank privatisation and the repeal of state ownership on economic grounds. We suggest the potential benefits of foreign ownership may take longer to be realised. For domestic private-owned banks, the challenge is improving bank efficiency.     

Concentrated commonalities and systemic risk in China's banking system: A contagion network approach

China's banking system has seen increasing convergence in exposures to different asset types. These concentrated commonalities have far reaching implications on systemic financial risk. Based on the commonality structure of banks' balance sheets, we construct a bipartite financial network and design novel indicators to analyze the systemic risk of China's banking system and its relation to the real economy. Results show that (1) considering the interconnectivity, indirect loss arising from common exposure is much higher than direct loss; (2) concentrated common exposure to mortgage is demonstrated to be the most significant source of systemic vulnerability in China; (3) the derived contagion network shows the property of “small world”, which plays an important role in generating systemic risk, amplified non-linearly by multi-rounds of contagion; (4) a bank's systemic importance/vulnerability depends on complex interaction between asset volume, leverage rate, and its commonality of asset composition to other banks. The model proposed in this study provides a new structural perspective to investigate the systemic risk, and a macroprudential instrument to complement existing stress testing that contributes to more efficient and precise regulations. Moreover, we contribute a ranking framework to assess each bank's systemic importance as well as vulnerability corresponding to specific real sectors.     

Public perception of dementia risk in the UK: a mental models approach

Abstract

Dementia is a leading cause of death in the developed world. A number of modifiable risk factors for dementia have been identified, yet lay knowledge on dementia risk is limited. A mental models approach was used to compare lay and expert knowledge of risk in order to identify target areas for lay education. This method assumes experts and laypeople use different cognitive representations to make sense of phenomena. Semi-structured interviews were conducted with 8 experts and 15 laypeople to construct mental models of dementia risk. Interviews were transcribed verbatim and entered into NVivo qualitative data analysis software for coding. Findings indicated that laypeople had some knowledge of modifiable risk factors but in contrast to the expert mental model, laypeople poorly understood the causal links between these factors and dementia risk. Lay participants were unsure of the interaction between modifiable and non-modifiable risk factors and primarily attributed dementia risk to ‘bad luck’. It is suggested that future dementia education could benefit by building upon a general appreciation of healthy behaviour with particular focus on explaining the causal pathways to dementia risk. Additionally, it may be productive to inform laypeople it is possible to ‘change one’s luck’ by engaging in protective behaviours.     

Scale economies,bank mergers,and electronic payments: A spline function approach

This paper demonstrates the importance of using a flexible cost function specification when analyzing economies of scale and estimating the cost effect of banking mergers. The inflexibility of the translog cost function is illustrated and results are compared to more flexible spline and Fourier cost functions. Using these different approaches we predict the ex ante effect on average cost from mergers over 1987–1998 using a balanced panel of 130 Norwegian banks. On average mergers are predicted to lower costs. Predictions using the Fourier or spline approach are in overall agreement with computed actual average merger-cost changes ex post. Cost effects of electronic payments are also estimated and exceed cost reductions associated with mergers.     

Merger and acquisitions in South African banking: A network DEA model

Banking in South Africa is known for its small number of companies that operate as an oligopoly. This paper presents a strategic fit assessment of mergers and acquisitions (M&A) in South African banks. A network DEA (Data Envelopment Analysis) approach is adopted to compute the impact of contextual variables on several types of efficiency scores of the resulting virtual merged banks: global (merger), technical (learning), harmony (scope), and scale (size) efficiencies. The impact of contextual variables related to the origin of the bank and its type is tested by means of a set of several robust regressions to handle dependent variables bounded in 0 and 1: Tobit, Simplex, and Beta. The results reveal that bank type and origin impact virtual efficiency levels. However, the findings also show that harmony and scale effects are negligible due to the oligopolistic structure of banking in South Africa.     

Board governance and bank performance: A meta- analysis

Using a database of 56 studies on corporate governance in the banking industry that were published between 2007 and 2019, this study performs a meta-analytic review to examine the impact of board governance on bank performance. We investigate how board size, CEO duality, outside directors, and female directors on board play a role in determining bank performance. Variations in the relationship between board governance and bank performance that attribute to moderating effects of potential moderators, including the system of corporate governance, bank performance measures, the definitions of governance variables, publication quality, and endogeneity concerns, are also encapsulated. Our study shows that bank performance is positively associated with larger boards and a high proportion of outside and female directors, supporting the resource dependence theory. We find that the moderating variables considerably alter the link between board governance and bank performance. The study offers ways to enhance board effectiveness by enforcing governance practices in the banking systems based on each countries’ legal and institutional framework and suggests reconsidering mandates for smaller boards and duality on boards of banking firms.