A Cross‐Country Analysis of the Bank Supervisory Framework and Bank Performance

Ongoing changes in the structure and nature of banking, as well as banking crises across the globe have focused the attention of policy makers on the appropriate structure, scope, and degree of independence of banking supervision. Key issues for banking supervision structure are whether there should be one or multiple supervisory authorities, and whether the central bank should be involved in bank supervision. The issue pertaining to the scope of supervision is whether bank supervisory authorities should supervise other financial service industries, including in particular securities and insurance. Finally, the issue regarding the independence of supervisory authorities is the degree to which bank supervisors should be subject to political and economic policy pressure and influence. How these issues are addressed is important, because policies that fail to provide for an appropriate bank supervisory framework may undermine bank performance and even lead to full‐scale banking crises. The intense interest policy makers have shown in these issues has not been matched, however, by researchers. In particular, there is very little systematic empirical evidence on how, or indeed whether, the structure, scope, or independence of bank supervision affects the banking industry. This paper addresses this gap in three respects. First, drawing on the existing literature, we discuss the various policy issues surrounding the structure, scope, and degree of independence of bank supervision. Second, we provide comparative information on the actual choices that have been made regarding these three aspects of supervision across a wide range of developed and emerging market economies. Third, using both country‐specific data for 55 countries in all parts of the world, and data for over 2,300 individual banks in those countries, we examine the relationship between the structure, scope, and independence of bank supervision and one key dimension of the banking industry – bank profitability. Our results indicate, at most, a weak influence for the structure of supervision on bank performance. In particular, we find some evidence that a single‐supervisor system enhances bank performance. However, following our discussion of the caution one must use in interpreting data on the supervisory framework, our re‐estimates using an alternative source of data on the structure of supervision failed to duplicate this result. Our results have a bearing on a key dimension of the policy debate on how to structure supervision. In particular, given the dearth of empirical evidence on the issues, advocates of one form or another of supervisory structure have asserted that a particular change is likely to affect (favorably or adversely, as the advocate sees fit) the performance of banks. Our results provide little support at best to the belief that any particular bank supervisory structure will greatly affect bank performance. This is significant, because it suggests that the on‐going debate might more broadly focus on the impact of the supervisory structure on other aspects of the health of the banking system, including individual bank safety and soundness, systemic stability, and the development of the banking system.     

Stock Market Valuation, Profitability and R&D Spending of the Firm: The Effect of Technology Mergers and Acquisitions

Abstract:  In this paper, we investigate whether a firm can enhance the effect of its R&D spending on its current market value and future profitability through technology-oriented M&As. On the basis of an analysis of 1,879 M&As, we find that when a technology firm acquires another technology firm, the magnitude of the stock price response to the R&D spending of an acquirer increases by 107% in the year of the M&A. In contrast, we find no such increase in the stock price response to the R&D spending of a non-technology acquirer. We also find that technology acquirers are more successful in converting their R&D spending into positive future profitability than non-technology acquirers. Our results are robust for different alternative specifications of our model and when various firm differences are controlled for.     

The Relative Relevance of Cash Flow and Accrual Information for Solvency Assessments: A Multi‐Method Approach

This multi-method study reports the results of two complementary experiments investigating the relevance of cash flow and accrual information. A behavioural field experiment investigated differences in the accuracy of solvency assessments between commercial lending managers using cash flow information and those using accrual information. Results indicated that commercial lending managers using cash flow information made more accurate solvency assessments than managers using accrual information. Results of an archival quantitative modeling experiment complemented these results and indicated cash flow information had incremental information content beyond accrual information. Our results confirmed the decision-usefulness of cash flow information and supported the mandate of the Statement of Cash Flows.     

Evaluating the Performance of Ethical and Non‐ethical Funds: A Matched Pair Analysis

Abstract:   This paper studies the performance of 60 European funds from four countries. The paper extends the UK matched pair approach for fund evaluation developed by Mallin et al. (1995) to a European setting. The findings suggest that there is no difference between ethical and non‐ethical funds according to the performance measures employed. Neither type of fund displayed any ability to time the market. Finally, the results indicate that the management fee is a significant explanatory variable for the Jensen measure as Chen et al. (1992) and Grinblatt and Titman (1994) suggested.     

Optimal Estimation of the Risk Premium for the Long Run and Asset Allocation: A Case of Compounded Estimation Risk

It is well known that an unbiased forecast of the terminal valueof a portfolio requires compounding at the arithmetic mean returnover the investment horizon. However, the maximum-likelihoodpractice, common with academics, of compounding at the estimatorof mean return results in upward biased and highly inefficientestimates of long-term expected returns. We derive analyticallyboth an unbiased and a small-sample efficient estimator of long-termexpected returns for a given sample size and horizon. Both estimatorsentail penalties that reduce the annual compounding rate asthe investment horizon increases. The unbiased estimator, whichis far lower than the compounded arithmetic average, is stillvery inefficient, often more so than a simple geometric estimatorknown to practitioners. Our small-sample efficient estimatoris even lower. These results compound the sobering evidencein recent work that the equity risk premium is lower than suggestedby post-1926 data. Our methodology and results are robust toextensions such as predictable returns. We also confirm analyticallythat parameter uncertainty, properly incorporated, producesoptimal asset allocations, in stark contrast to conventionalwisdom. Longer investment horizons require lower, not higher,allocations to risky assets.     

Growth Opportunities and Investment Decisions: A New Perspective on the Cost of Capital

This paper shows that it is not always correct to make an upward adjustment to the stock beta in calculating the hurdle rate for capital budgeting even when the project under consideration is riskier than existing assets. The paper also shows that the correct hurdle rate is smaller than the market capitalization rate calculated from the firm's stock beta when the project under consideration has the same risk as existing assets. In addition, it is shown that the market capitalization rate will be an underestimate (overestimate) of the correct hurdle rate when the risk of future assets is greater (smaller) than both the risk of assets in place and that of future capital expenditures. These new results are direct consequences of the insight that the firm's investment opportunities are in fact real call options written on underlying assets.