Over the past 15 years, banks around the world have been confronted with substantial costs related to misconduct. In this paper, we examine the impact of provisions for misconduct costs on the behavior of UK banks. We first document that misconduct provisions have a significant and negative effect on capital ratios. Next, we show that banks whose capital is reduced by misconduct provisions decrease non-lending activities but increase lending. Lending growth is driven by profitable higher loan-to-value mortgages, which typically incur a lower capital risk-weighting compared to non-lending activities. These results suggest that when faced with a capital shock due to misconduct provisions, banks restore their capital ratios by shifting their balance sheet towards activities that optimize the ratio of profitability to risk-weighted assets.

We examine how banks’ cross-border lending reacts to changes in the intensity of liquidity regulation using a new dataset on the UK’s Individual Liquidity Guidance. An increase in requirements reduces banks’ cross-border lending growth to banks and non-banks. But banks’ business models determine how they adjust: banks with higher deposit shares, such as those with UK retail operations, protect lending more; banks also preserve lending to countries they do most business, cutting elsewhere; foreign subsidiaries from countries not eligible to issue High Quality Liquid Assets (HQLA) show the strongest reduction in lending; in contrast, subsidiaries from HQLA-issuing countries cut intragroup lending.

Since the 2008 financial crisis, regulators and supervisors have been granted increased independence from political bodies. But there is no clear evidence of the benefits of more independence for the stability of the banking sector. In this paper we introduce a new indicator of regulatory and supervisory independence for 98 countries from 1999 to 2019. We combine this index with bank-level data to investigate the relationship between independence and financial stability. We find that greater regulatory and supervisory independence is associated with improved financial stability. We show that these results are robust to alternative measures of financial stability and to a number of tests. Overall, our findings indicate that increasing the independence of regulators and supervisors is beneficial for financial stability.