Knowledge that Transforms

This paper assesses the cross country `stylised facts' on empirical measures of the losses incurred during periods of banking crises. We first consider the direct resolution costs to the government and then the broader costs to the welfare of the economy – proxied by losses in GDP. We find that the cumulative output losses incurred during crisis periods are large, roughly 15–20%, on average, of annual GDP. In contrast to previous research, we also find that output losses incurred during crises in developed countries are as high, or higher, on average, than those in emerging-market economies. Moreover, output losses during crisis periods in developed countries also appear to be significantly larger – 10–15% – than in neighbouring countries that did not at the time experience severe banking problems. In emerging-market economies, by contrast, banking crises appear to be costly only when accompanied by a currency crisis. These results seem robust to allowing for macroeconomic conditions at the outset of crisis – in particular low and declining output growth – that have also contributed to future output losses during crises episodes.

Resampling implementation of a stress-scenario approach to estimating portfolio default loss distributions is proposed as the basis for estimates of the appropriate absolute level of economic capital allocations for portfolio credit risk. Estimates are presented for stress scenarios of varying severity and implications of different time horizons are analyzed. Results for a numeraire portfolio are quite sensitive to such variations. Although the analysis is framed in terms of recent proposals to revise regulatory capital requirements for banks, the arguments and results are also relevant for bankers making capital structure decisions.

In September 1999, the University of Notre Dame hosted a conference entitled “Measuring and Managing Ethical Risk: How Investing in Ethics Adds Value”. The motivations for hosting the conference and the papers presented there are summarized. Several themes that are present in the papers are discussed. These include the gains from combining the anthropological approach to business ethics with the neoclassical economics approach, the central role of trust in business ethics, the role of ethics in the corporation, and the function of the legal system in setting and enforcing ethical standards for the financial system.

This paper shows how the credit risk premium affects firms' optimal hedging strategies. The model predicts that if the credit risk premium is relatively small, firms use convex hedging strategies. If the credit risk premium is relatively large, firms use concave hedging strategies. Firms in between those two extremes use strategies that feature both convex and concave elements, e.g. collar strategies. Finally, firms that are unlevered, invest little and are exposed to few non-hedgeable risks are the most likely to use linear approximations of the optimal strategy. The model replicates essentially all observed hedging strategies in the gold mining industry.

This article examines competitive conditions and market structure in the banking industry, and investigates their interrelationship. Competition is measured using the Panzar–Rosse model. In order to distinguish competitive behaviour on local, national and international markets, for each country, three subsamples are taken: small or local banks, medium-sized banks and large or international banks. For all 23 countries considered, estimations indicate monopolistic competition, competition being weaker in local markets and stronger in international markets. Subsequently, a relationship for the impact of the market structure on competition is derived and tested empirically, providing support for the conventional view that concentration impairs competitiveness.

Between 1992 and 1997, Indian firms were the most frequent issuers of equity-backed Global Depositary Receipts (GDRs) governed by the SEC's Rule 144A and Regulation S. They also accounted for the highest dollar volume. Home-market stock price responses to these issues are consistent with the hypotheses that GDRs enable firms to resolve two forms of information asymmetry: (1) an asymmetry between issuing firms and international investors that results from market segmentation and (2) an asymmetry between Indian firms and home-market investors that resembles asymmetries that help explain abnormal returns in equity private placements by US firms. Our evidence suggests that GDR issuance can increase investors' recognition of underlying shares even if there are no liquidity enhancements and even if disclosure requirements are not as demanding as those imposed on foreign firms whose depositary receipts trade in public US markets.

Value gains to target firm shareholders in takeover bids may be due to potential synergy between bidder and target and/or potential target restructuring based on new information released by the bid. Since these two models have different implications for the anticipated earnings of the target as a stand-alone entity, analysts' earnings forecast revisions (AFR) for the target during the bid may provide evidence for the new information hypothesis. For 326 UK targets of takeover bids during 1987–1993, we estimate analysts' earnings forecast revisions using the Institutional Brokers Estimate System (IBES) and relate them to bid premia paid to target shareholders. Analysts revise their forecasts significantly up on bid announcement. For failed, especially failed hostile, bids, the earnings forecast revision and bid premium are more positively correlated than for successful and friendly bids. This is consistent with the rational expectations behaviour of target shareholders modelled by Grossman and Hart [S.J. Grossman, O.D. Hart, Bell Journal of Economics 11(1) (1980) 42; S.J. Grossman, O.D. Hart, Journal of Finance 36 (1981) 253].

The present paper demonstrates the ambiguous impact of subordinated debt on the risk-taking incentives of banks. It is shown that in comparison with full deposit insurance, subordinated debt reduces risk only if banks can credibly commit to a given level of risk. If, however, banks are not able to commit, subordinated debt leads to an increase in risk. This is because due to limited liability banks always have an incentive to increase their risk after the interest rate is contracted in order to reduce the expected costs of debt. Rational debt holders anticipate this behavior and accordingly require a higher risk premium ex ante. The higher interest rates in turn further aggravate the excessive risk-taking incentives of banks.

The aim of this paper is to test the temporal variation of technical efficiency of Spanish savings banks during the period 1985–1998. Furthermore, we test whether merged and non-merged firms have different levels and temporal patterns of technical efficiency. A stochastic output distance function (R.W. Shephard, Theory of Cost and Production Functions, Princeton University Press, Princeton, NJ) is employed to accommodate multiple output technology. The distance function provides the advantage that it does not need information about prices, so it can accommodate the multi-product nature of the financial sector only using the quantities as data (an important point when the assumptions about perfectly competitive markets are unlikely to be met). The temporal variation of efficiency is modeled extending the Battese and Coelli (Journal of Productivity Analysis 3 (1992) 153–169) approach in two ways: relaxing the monotonicity of the temporal variation pattern of the efficiency term, and allowing for different patterns of efficiency change between merged and non-merged firms.

This paper is devoted to the credit risk modeling issues of small commercial loans portfolios. We propose specific solutions dealing with the most important peculiarities of these portfolios: their large size and the limited information about the financial situation of borrowers. We then compute the probability density function of futures losses and VaR measures in a portfolio of 220.000 French SMEs. We also compute marginal risk contributions in order to discuss the loan pricing issue of small commercial loans and to compare the capital requirements derived from our model with those derived from the New Ratings-Based Basel Capital Accord.