Econometric analyses of banking stability : three essays

Abstract

This thesis focuses on the macro- and the microeconomics of banking stability.  We start with an investigation of the impact of competition among financial institutions upon the likelihood and timing of systemic crises.  Second, examine how increased competitive conduct among banks affects their capital ratios.  Following this, we take the point of view of a deposit insurance agency and use an innovative estimation procedure to help differentiate the determinants of particularly costly bank failures from less expensive failures.  Finally, we propose an alternative way of testing the efficacy of market discipline.

We present robust evidence for a positive link between bank competition and bank soundness.  In particular, competitive conduct not only goes hand in hand with increased bank soundness on the systemic level, but banks also hold higher capital ratios when operating in a competitive environment.  The subsequent analysis of bank liability structure and the drivers of costly bank failures to the deposit insurer suggests that previously employed econometric methods provide inappropriate inferences regarding the drivers of losses.

The empirical results give rise to numerous important public policy implications.  The robustly positive association of competition with bank soundness suggests that there is no negative trade-off between competitive conduct of banks and their soundness.  As a consequence, there is no compelling reason to curtail competition to achieve or sustain banking stability.  In addition, the finding that deposit insurer’s losses incurred from costly failures are particularly driven by the composition of the loan portfolio highlights that the lending portfolio deserves even greater regulatory scrutiny.  Furthermore, the results regarding the effect of bank liability structure on time to failure of financial institutions indicate that banks that are increasingly relying on short-term unsecured credits tend to fail faster.  Such institutions might have to be subject to additional means of prompt corrective action by regulatory authorities.  Finally, important omissions in the new Basel Capital Accord regarding bank liability structure are pointed out.

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