Knowledge that Transforms

This paper investigates the risk of failure of loans guaranteed by public credit guarantee schemes. We analyse the determinants of the time to default of approximately 15,000 loans guaranteed by the Italian Central Guarantee Fund between 2007 and 2009. Using the Cox proportional hazards model, we test the role of the financial intermediary that requests the guarantee on a firm’s behalf, while distinguishing between banks and mutual guarantee institutions (MGIs) and controlling for a set of variables that characterise each guaranteed loan. The findings confirm that loans are more likely to default when a bank—rather than an MGI—is involved in the guarantee process. Considering some elements (e.g. age, size and sector) that affect opacity among small- and medium-sized enterprises (SMEs), banks seem to perform better than MGIs in screening and monitoring loans requested by firms in the manufacturing sector.

Using data for 6740 U.S. banks from 1996 to 2016, we consider whether mortgage loan demand is a key determinant of banks’ cost efficiency and management quality. We estimate mortgage loan demand from loan-level applications at individual banks, and we estimate bank efficiency and management quality score from banks’ structural models. In line with theoretical considerations around economies of scale, our results show that loan amount demand improves cost efficiency, but the number of loan applications reduces cost efficiency. In contrast, mortgage loan demand has an economically less significant effect on management quality score. We also find that loan demand is an important factor in shaping banks’ loan quality, above and beyond operational efficiency.

Using a sample of publicly listed banks from 62 countries over the 1991–2017 period, we investigate the impact of capital on banks’ cost of equity. Consistent with the theoretical prediction that more equity in the capital mix leads to a fall in firms’ costs of equity, we find that better capitalized banks enjoy lower equity costs. Our baseline estimations indicate that a 1 percentage point increase in a bank’s equity-to-assets ratio lowers its cost of equity by about 18 basis points. Our results also suggest that the form of capital that investors value the most is sheer equity capital; other forms of capital, such as Tier 2 regulatory capital, are less (or not at all) valued by investors. Additionally, our main finding that capital has a negative effect on banks’ cost of equity holds in both developed and developing countries. The results of this paper provide the missing evidence in the debate on the effects of higher capital requirements on banks’ funding costs.

Using account level data from a credit bureau, we study the role that social capital plays in consumer default decisions. We find that borrowers in communities with greater social capital are significantly less likely to default on loans, even after adjusting for different levels of income and other characteristics such as credit scores. The results are strongest for potentially strategic defaults on mortgages; a one standard deviation increase in social capital reduces such defaults by 12.4 %. These results can be generalized to any mortgage default. Our results also indicate that the effect of social capital is most prominent among more creditworthy borrowers, suggesting that when given a choice, the social cost of defaulting is an important factor affecting default decisions. We find a similar impact of social capital on consumer defaults in other datasets with more detailed information on borrowers as well. Our results are robust to modeling and methodology choices, as well as controlling for other drivers of default such as wealth, income and amenities from homeownership. Our results suggest that increasing social capital via measures to build community cohesion such as promotion of owner-occupied home ownership may be one avenue to deter consumer default.

Lack of coordination for prudential regulation hurts developing economies but benefits advanced economies. We consider a two-country macro model in which countries have limited ability to issue state-contingent contracts in international markets, and equilibrium is constrained inefficient. Both countries have incentives to stabilize their economy by using prudential limits, but the emerging economy depends on the advanced economy to bear global risk. Intermediating global risk requires bearing systemic risk, which financially developed economies are unwilling to bear, preferring financial stability over credit flows. Advanced economies prefer tighter prudential limits than would occur with coordination, to the harm of emerging economies.

This paper assesses the sensitivity of solvency stress testing results to the choice of credit risk variable and level of data aggregation at which the stress test is conducted. In practice, both choices are often determined by technical considerations, such as data availability. Using data for the Belgian banking system, we find that the impact of a stress test on banks’ Tier 1 ratios can differ substantially depending on the credit risk variable considered, but much less so on the level of aggregation. If solvency stress tests are going to be used as a supervisory tool or to set regulatory capital requirements, there is a need to further harmonise their execution across institutions and supervisors in order to enhance comparability. This is certainly relevant in the context of the EU-wide stress tests, where institutions often use different credit risk variables (and levels of data aggregation) to estimate the impact of the common methodology and macroeconomic scenario on their capital level and supervisors rely on different models to quality assure and validate banks’ results. More generally, there is also a need to improve the availability and quality of the data to be used for stress testing purposes.

This paper investigates whether the takeover market has been affected by heightened macroeconomic uncertainty, following President Trump’s Election, both in the US and globally. We have based our analysis on a four-year period around the 2016 US elections, and as such we have observed an increase in M&A deals and associated valuations, after the election; this was especially true for cross-border deals acquiring U.S. targets, consistent with a tariff-jumping hypothesis. The high target valuations are also the product of the implementation of a lower corporate tax rate, which reveals positive externalities for U.S. targets, stemming from the protectionist and lower corporate tax initiatives of the regime.

We investigate the relationship between the going-public decision and firm risk. We employ a comprehensive sample of firms that went public on European stock exchanges from 2000 to 2015 and examine how the risks of these newly listed firms are different from those of private firms and long-listing firms. We find that compared with private firms, newly listed firms have significantly increased risks of financial distress. This difference is largely attributable to the increase in leverage and the decline in liquidity, profitability and retained earnings. The results are consistent after controlling for selection bias, the effect of stock issuance, and the impact of the financial crisis and are robust to different risk indicators and estimation models (namely, the treatment effect model and DID). Finally, we find that the risks of newly listed firms are much higher than those of long-listing firms, and the risk effect of newly listed firms gradually weakens after listing. We argue that the increase in risk of IPO firms is temporary and is likely to be caused by the transition to public listing.

This study contributes to the low-carbon city (LCC) related literature by providing causal evidence on the impact of carbon reduction regulation on firm risk. Using staggered adoption of LCC program shocks in China as a quasi-natural experiment, we implement a difference-in-differences (DiD) analysis to investigate the impact of the low-carbon city initiatives on firm risk. We find that low-carbon city initiatives are significantly correlated with firm total risk, systematic risk, and idiosyncratic risk. The results are more pronounced for firms with greater changes of investment in fixed assets and R&D and for firms in provinces with stronger legal enforcement. Our study provides in-depth insights into the low-carbon city initiatives and the firm-level impact of its implementation.

We study the interaction between solvency and funding costs at UK banks. We use the market-based leverage ratio as a proxy for market participants’ perceptions of bank solvency. We investigate the impact that changes in this ratio have on banks’ CDS premia, which are a proxy for their marginal cost of wholesale funding. We find that a negative shock to market participants’ perception of banks’ solvency is associated with an increase in banks’ marginal cost of wholesale funding. We find evidence that this negative relationship is nonlinear, i.e. the responsiveness of funding costs to a shock to solvency is greater at lower initial levels of solvency.