We examine whether U.S. banks subject to the Liquidity Coverage Ratio (LCR) reduce lending (an unintended consequence) and/or become more resilient to liquidity shocks, as intended by regulators. We find that LCR banks tighten lending standards, and reduce liquidity creation that occurs mainly through lower lending relative to non-LCR banks. However, covered banks also contribute less to fire-sale externalities relative to exempt banks. For LCR banks, we estimate that the total after-tax benefits of reduced fire-sale risk (net of the costs associated with foregone lending) exceed $50 billion from 2013Q2 to 2017, mostly accruing to the largest LCR banks. Non-LCR regulations enacted during our sample period cannot fully account for these findings. For the banking sector as a whole, lending migrates to smaller, non-LCR banks so that lending shares increase but fire-sale risk does not decrease. Our results highlight the trade-off between liquidity creation and resiliency arising from liquidity regulations that underlie the debate on whether the LCR should be extended following the banking crisis of March 2023

This paper assesses the value of multiple requirements in bank regulation using a novel empirical rule-based methodology. Exploiting two datasets, we apply simple threshold-based rules to assess how different capital and liquidity ratios individually and in combination might have identified banks that failed in the global financial crisis and European sovereign debt crisis. Our results support the case for a small portfolio of different regulatory metrics, calibrated holistically. A portfolio of a leverage ratio, a risk-weighted capital ratio and a liquidity ratio such as the NSFR correctly identifies a high proportion of failing banks with fewer false alarms than any of these metrics individually – and at less stringent calibrations. The relative usefulness of individual metrics also varies across different crises and regulatory regimes, highlighting how a portfolio approach may be more robust. Further, we show that market-based capitalisation measures and loan-to-deposit ratios can provide complementary value in monitoring banks

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

The literature demonstrates numerous consequences of bank geographic deregulation, but neglects bank capital structure – critical to performance, resilience, and prudential regulation/supervision. We supply first-time evidence on geographic deregulation effects on bank capital. We also distinguish and test two novel mechanisms through which geographic deregulation may affect bank behavior. The competitive defense and competitive offense mechanisms differentiate deregulation effects in increasing external competitive pressures on banks versus expanding banks’ capacity to compete externally. We find statistically and economically significant evidence of geographic deregulation effects on two bank capital management tools – target capital ratios and speeds of adjustment to these targets – yielding higher targets and faster adjustment. Findings are robust to addressing identification concerns using dynamic panel methodology, a gravity-deregulation approach, and time-varying bank-specific instruments. The data also support both the competitive defense and competitive offense mechanisms, suggesting future research and policy applications of these mechanisms to banking and more generally

The focus of this paper is whether the Securities and Exchange Commission's Regulation SHO strengthens or weakens the effect of short-selling threats on banks’ risk-taking. The evidence shows that pilot banks with looser constraints on short-selling increased their risk-taking during the financial crisis of 2007–2009. The reason is that short-selling threats improved the information environment and mitigated the agency problems of banks during the pilot program that led to greater risk-taking by pilot banks. Additionally, this effect is mainly driven by pilot banks with poor corporate governance, or high information asymmetry. Overall, our paper provides novel evidence that the disciplinary role of short-sellers had a positive effect on bank risk-taking during the financial crisis

Regulation of the market for structured retail investment products in Germany switched from voluntary self-regulation to government regulation. In 2014, issuers of structured retail products subscribed to the “Fairness Code” as an instrument of self-regulation. A key measure of the Fairness Code was the mandatory disclosure of an “Issuer Estimated Value” (IEV) to provide information about hidden investment costs for the retail customer. In 2018, this measure became obsolete, since the new EU regulation on Packaged Retail and Insurance-Based Investment Products (PRIIPs) prescribed a direct disclosure of investment costs. We compare these instruments of voluntary self-regulation and government regulation and analyze issuers’ disclosure policies under both regimes. The new regulation effectively forces issuers to report actual costs correctly. In contrast, the self-regulated IEV was of limited use for retail investors, because (i) its definition was ambiguous, and (ii) issuers exploited this opaqueness by reporting disproportionately high IEVs. Hence, under voluntary self-regulation issuers professed transparency and fairness, but continued to hide costs in their prices

The internal ratings-based (IRB) approach maps banks' risk profiles more adequately than the standardized approach. After switching to IRB, banks' risk-weighted asset (RWA) densities are thus expected to diverge, especially across countries with different supervisory strictness and risk levels. However, when examining 52 listed banks headquartered in 14 European countries that adopted the IRB approach, we observe a convergence of their RWA densities over time. We test if this convergence can be entirely explained by differences in the size of the banks, loss levels, country risk, and/or time of IRB implementation, yet this is not the case. Whereas banks in high-risk countries, with lax regulation, reduce their RWA densities, banks elsewhere increase theirs. Especially for banks in high-risk countries, RWA densities underestimate banks' actual economic risk. Hence, the IRB approach allows for regulatory arbitrage, whereby authorities only enforce strict supervision on capital requirements if they do not jeopardize bank viability

Modern capital markets are subject to many interventions and regulations, some of which curtail the implementation of specific trading strategies in a market. While we understand much of these regulations’ individual effects, the picture is less clear about their joint effects. This paper considers the interaction of two regulations, namely rules limiting shorting of assets and cash, and rules limiting insider trading. For these regulations, prior research shows spikes in short-selling activity around the revelation of insider information, which different studies trace to different causes. Among other results, we find that both allowing short positions and allowing informed trading causes informed traders to increase their market activity and causes mispricing and spreads to diminish. Nevertheless, we find no evidence for significant interaction effects between the two regulations

The Basel III post-crisis reforms target the application of internal credit risk models for the estimation of the risk weighted assets of banks due to concerns about model risk. We use a unique dataset of 4.9 million probability of default (PD) estimates covering the January 2016 - June 2020 period sourced from 28 global banks to provide a deep insight into the comparability of model outputs. Our contribution is four-fold. Firstly, we confirm that there is a substantial variance in credit risk estimates. Secondly, we show that the level of PD variance is dependent on the entity type, industry , and location. Thirdly, we conclude that a considerable part of the variance is systematic, especially for credit risk estimates of funds. Finally, we illustrate the massive impact of the COVID-19 pandemic on the PD variance. The results highlight areas with relatively larger comparability issues, and they can be used by regulators to design more targeted policies

This study investigates the impact of non-punitive regulation on stock price crash risk. We use the inquiry letter issued by the Shanghai Stock Exchange (SSE) and the Shenzhen Stock Exchange (SZSE) in China as a proxy for non-punitive regulation. The results demonstrate that stock price crash risk decreases after the issuance of the inquiry letter. The reduction in crash risk is more pronounced for firms receiving a more detailed inquiry letter (or an inquiry letter requiring intermediary agencies to provide professional opinions) and for those that have more incentives or are more easily able to conceal bad news. The firm's response to the corresponding inquiry letter reduces crash risk. Furthermore, the impact of the inquiry letter on reducing crash risk is short-term, not long-term. These results indicate that the inquiry letter reduces crash risk by playing its information discovery role