Vulnerability Of Banking Sector Research Articles

How vulnerable are interconnected portfolios of South African banks?

Price shocks that propagate through the financial system present a significant risk to financial system stability. This study was an evaluation of the vulnerability of South African banks’ portfolios to pricemediated contagion in the last decade. Using longitudinal data of balance sheet positions of the 10 largest banks from 2010 to 2020, the stress tests were triggered by price shocks on one marketable asset held by all banks: South African government bonds. Overall, the study found that second-order feedback effects from bank deleveraging are muted and that the concentrated structure of the South African banking system has a positive effect on shock absorption. However, a gradual trend towards more similar asset portfolios in the past 10 years has gradually increased exposure to the price-mediated contagion channel. Significance: The paper presents a novel modelling framework to study feedback price-effects in stress tests conducted on the South African banking system. A new data set shows the evolution of South African banks’ portfolio structure and vulnerability by computing two fragility metrics and a portfolio similarity measure. Using this data set, the relationship between banking sector vulnerability and portfolio similarity is tested empirically and it is shown how common asset holdings aggravate systemic risk to pricemediated contagion.

Assessing Banking Sector Vulnerabilities in the Gulf Cooperation Council in the Wake of COVID-19

Assessing Banking Sector Vulnerabilities in the Gulf Cooperation Council in the Wake of COVID-19

Здійснення стрес-тестування банків у США

The banking system of any state is a component of its economic system. Therefore the stability of the entire national economy depends on its smooth and effective functioning. Given the globalization of economic relations today, the stability of the banking systems of other countries with open market economies, which have close financial ties, depends on the stability of the US banking sector. The purpose of the article is to reveal the features of stress testing of banks in the USA and to assess the dynamics of the stability of the banking system of this country over the past 20 years. Stress testing of banks in the USA is carried out to identify and measure the banking sector's vulnerability to shock macroeconomic events in the national and global economy. This study is based on the analysis of the dynamics of four indicators: the capital sensitivity coefficient, the sensitivity index to the forced quick sale of assets, the liquidity coefficient for stress scenarios, and the sensitivity index to the loss of liquidity and solvency. It was revealed that the US banking system was most unstable during the 2008-2009 crisis when banks suffered significant losses due to risky credit policies. Post-crisis regulation of capital and liquidity, thanks to the balanced policy of the Federal Reserve System, led to many subsequent years of stability. Banks also had to apply anti-crisis regulatory measures in the “covid” 2020 year, and these measures brought positive results. The shock events did not affect the stability of the US banking system but were reflected in the amount of cash. The loosening of anti-crisis measures in 2021 caused some growth in the indicators calculated during stress testing. However, it did not lead to the destabilization of the banking system.

Foreign Direct Investment, Financial Development, and Economic Growth Nexus in Bangladesh

This article aims to explore the short- and long-run impact of foreign direct investment (FDI), financial development (FD), capital formation, and the labor forces on the economic growth of Bangladesh. We applied the Granger causality test and Vector Error Correction Model (VECM) for this study. The World Bank data for the period of 1990–2018 are taken into account for the analysis. Our findings suggest, in the long run, capital formation has a positive impact, and in the short run, it has a negative impact on gross domestic product (GDP) implying a lack of higher efficiency is persisting in capital management. Similarly, labor forces have an insignificant impact in the short run and a negative impact in the long run on GDP, which confirms the presence of a huge number of unskilled laborers in the economy with inefficient allocation. The impact of FD is found tiny positive in the short run but large negative in the long run on GDP indicating vulnerability of banking sector. These also confirm fraudulence and inefficient use of the domestic credit supplied to the private sector. The impact of FDI is approximately null both in the short and long run, indicating Bangladesh fails to achieve the long-term benefits of FDI. Finally, this study suggests using FDI more in the capital intensive project of the public–private partnership venture than infrastructural development only and also improving the credit management policy of the banking sector. JEL Classifications: F21, F43, J21

Macro Stress Testing Credit Risk: Case of Madagascar Banking Sector

Abstract This study proposes to assess the vulnerability of banking sector’s credit portfolio under macroeconomic shocks and to evaluate its impact on banking system capitalization. Our method uses the Global Vector Autoregressive (GVAR) Model to generate adverse macroeconomic scenarios. The GVAR model is combining by the satellite credit risk equation to find the non-performing loan under stress conditions. The advantage of using GVAR model is that on the one hand, it captures the transmission of global, external and domestic macroeconomic shocks on banks non-performing loans. On the other hand, this model considers the nonlinear pattern between business cycle and the bank credit risk indicator during the extreme events as highlighting by the macro stress test literature. The forecast of non-performing loan is then used to obtain stress projections for capital requirement for the banking system level. This article attempts to fill the lacks concerning the stress testing works about Madagascar which study is a recent framework, whose no study on dynamic macro stress testing was treated before. The Results outline the interaction of aggregate non-performing loan with macroeconomic evolution. The horizon of capital prediction shows that banking sector reacts most to a GDP shock. Also, Madagascar banking sector is quite resilient and remains sufficiently capitalized under all macroeconomic scenarios designed with a solvency ratio higher than the minimum regulatory CAR ratio.

Using the market value of equity to signal banking sector vulnerabilities

Equity market valuations of bank capital have been found to be better than regulatory capital ratios, and other metrics, in spotting problem banks. This paper illustrates how marketbased ratios could be used as part of the surveillance toolkit to assess vulnerabilities in the banking sector. While the measures may provide some false signals, from the point of view of an authority tasked with assessing systemic risk, it is better to have a strategy for identifying potential difficulties — even if sometimes everything turns out to be fine — than not being able to spot anything before problems affect the banking system.

Finding the Bad Apples in the Barrel: Using the Market Value of Equity to Signal Banking Sector Vulnerabilities

This paper measures the performance of different metrics in assessing banking system vulnerabilities. It finds that metrics based on equity market valuations of bank capital are better than regulatory capital ratios, and other metrics, in spotting banks that failed (bad apples). This paper proposes that these market-based ratios could be used as a surveillance tool to assess vulnerabilities in the banking sector. While the measures may provide a somewhat fuzzy signal, it is better to have a strategy for identifying bad apples, even if sometimes the apples turn out to be fine, than not being able to spot any bad apples before the barrel has been spoiled.

Suriname:

Suriname is recovering from the deep recession of 2015-16. Growth has turned positive, inflation has reduced to single digits, real interest rates have turned positive, and the external position has on balance strengthened. Nonetheless, the economy remains heavily dependent on the mineral sector, and faces fiscal, monetary, and banking sector vulnerabilities.

Central banks’ preferences and banking sector vulnerability

According to “Schwartz's conventional wisdom” and what has been called “divine coincidence”, price stability should imply macroeconomic and financial stability. However, in light of the global financial crisis, with monetary policy focused on price stability, scholars have held that banking and financial risks were largely unaddressed. According to this alternative view, the belief in divine coincidence turns out to be benign neglect. The objective of this paper is to test Schwartz's hypothesis against the benign neglect hypothesis. The priority assigned to the inflation goal is proxied by the central banks’ conservatism (CBC) index proposed by Levieuge and Lucotte (2014), here extended to a large sample of 73 countries from 1980 to 2012. Banking sector vulnerability is measured by six alternative indicators that are frequently employed in the literature on early warning systems. Our results indicate that differences in monetary policy preferences robustly explain cross-country differences in banking vulnerability and validate the benign neglect hypothesis, in that a higher level of CBC implies a more vulnerable banking sector.

Forewarned is Forearmed: Configuring an Early Warning Mechanism for Macro-Financial Space in India

This paper makes attempts to identify a set of early warning indicators for Indian macro-financial space and estimates the efficacy of chosen indicators in signaling the crises. The results showed that a few indicators (such as ‘credit to GDP gap’, ‘output GAP’, ‘Credit growth’, ‘Deposit growth’, ‘CRAR’, ‘Gross NPA Ratio’ and ‘ROA’) performed well in identifying the financial distress with good signal and low noise ratios. As it is difficult to monitor movements of several indicators individually, that too pertaining to different sectors, while predicting crises, an attempt is also made to construct three composite indices, viz., Index of Speculative Pressures, Index of Macroeconomic Vulnerability and Index of Banking Sector Vulnerability and finally an overall Systemic Financial Stability Index. Results corroborate that composite indices performed better in signaling the crises well in advance. The noise ratio too looks better for them.

Kyrgyz Republic

External shocks continue to shape both the outlook and policies. A weaker-than-expected external environment is hurting growth, straining the budget, and raising public debt and banking sector vulnerabilities. The authorities’ response to shocks has focused on exchange rate flexibility and unorthodox stimulus measures, although the budget deficit in 2015 was well within the program target. For 2016, the authorities are undertaking additional efforts to adhere to the program’s fiscal commitments. Financial sector vulnerabilities and risks are high and rising. Slow progress toward passing the Banking Law that aims to introduce a modern bank resolution system and increase the independence of the National Bank of the Kyrgyz Republic remains a concern. The change in the cabinet just six months after the elections underlines the fluidity of the country’s political situation.

Money Laundering (ML) and Terrorism Financing (TF) in the Insurance Market: A Risk and Vulnerability

Following the risk and vulnerability of banking sector, insurance sector is equally the target of the criminal. Criminals involving in ML or TF seek an opportunity to legalize their black money from insurance business as well. Customers willing to accept unfavorable policy, involvement of the undisclosed party, exaggerated claim/false or bogus claim are the common insurance fraud. Claim with fake death and lose of memory are the frequent fraudulent behavior in life insurance. Failures to pay premiums, non-proportionate commission, and insurance policy from non-existing companies show occupational fraudulent behavior and hyperbolic claim, charlatan medical document, post dated policies; fabricated extortion, kidnapping, and murder are other stratagem of the criminals. Although the life insurance sector is highly vulnerable, there is equally the risk of ML/TF through general insurance, reinsurance, intermediary and agents. Intermediaries, the brokers or agent not affiliated with company, may offer the riskier product, which is more vulnerable in those country where no sufficient ML/TF measure is in line.

Mongolia: 2013 Article IV Consultation-Staff Report; Press Release and Statement by the Executive Director for Mongolia

This 2013 Article IV Consultation highlights economic developments and policies of Mongolia between 2003 and 2013. The resulting balance-of-payments (BOP) pressures have been compounded by negative shocks to foreign direct investment (FDI) and coal exports. The IMF report analyzes that various banking sector vulnerabilities and weaknesses in the business climate need to be addressed to steady the progress of the economy. Launch of new investment law is important to be introduced by the government to improve the business climate and encourage FDI inflows.

Predicting distress in European banks

The paper develops an early-warning model for predicting vulnerabilities leading to distress in European banks using both bank and country-level data. As outright bank failures have been rare in Europe, the paper introduces a novel dataset that complements bankruptcies and defaults with state interventions and mergers in distress. The signals of the early-warning model are calibrated not only according to the policymaker’s preferences between type I and II errors, but also to take into account the potential systemic relevance of each individual financial institution. The key findings of the paper are that complementing bank-specific vulnerabilities with indicators for macro-financial imbalances and banking sector vulnerabilities improves model performance and yields useful out-of-sample predictions of bank distress during the current financial crisis.

Predicting Distress in European Banks

The paper develops an early-warning model for predicting vulnerabilities leading to distress in European banks using both bank and country-level data. As outright bank failures have been rare in Europe, the paper introduces a novel dataset that complements bankruptcies and defaults with state interventions and mergers in distress. The signals of the early warning model are calibrated not only according to the policy-maker's preferences between type I and II errors, but also to take into account the potential systemic relevance of each individual financial institution. The key findings of the paper are that complementing bank specific vulnerabilities with indicators for macro-financial imbalances and banking sector vulnerabilities improves model performance and yields useful out-of-sample predictions of bank distress during the current financial crisis.

Latin America: Vulnerabilities Under Construction?

This paper documents developments in mortgage credit and the housing sector in Latin America over the past decade, and compares them with those of other emerging economies. In particular, it examines the real estate and mortgage markets to assess whether (i) growth in mortgage credit is excessive compared to long-term trends; (ii) trends in house prices reflect changes in economic fundamentals; and (iii) the extent to which household and banking sector vulnerabilities could lead to potential fragilities. Although data limitations hamper a rigorous analysis of trends, our analysis suggests that while there are no imminent misalignments in the real estate and mortgage sectors, they could emerge if current trends persist. Strengthening supervision and addressing data gaps is thus critical to ensure adequate monitoring of risks and vulnerabilities in these sectors.

The cash-cds basis for sovereign countries: Market strategy, price discovery and determinants

We study the cash-CDS basis and its implication for market strategies and price discovery, together with the role of credit risk common factors. A positive net income is derived with a negative basis, once funding costs are considered. There exists an arbitrage opportunity for Greece in 2010, with a negative basis of more than 100 bp. Our comparison with three different basis shows that while converging markets seem adopt the same strategy, in particular for Portugal, Ireland and Greece. Results for price discovery show that the CDS market moves ahead the bond market. Finally, our empirical analysis shows that the global risk factor contributes to increase the basis, while the banking sector vulnerability proxy offers a negative contribution.

The Cash-CDS Basis for Sovereign Countries: Market Strategy, Price Discovery and Determinants

In this paper we study the cash-CDS basis and its implication in terms of market strategy and price discovery, while we investigate the role of credit risk common factors as determinants. After a description of CDS and asset swap contracts, we present the strategy: a positive net income is derived with a negative cash-CDS basis, once funding costs for both asset swap and CDS are considered. An example is offered for Greece in 2010: there exists an arbitrage opportunity in a limited period (end of April up to 7 May), where the cash-CDS basis is negative by more than 100 bp. Our comparison with three different basis shows interesting results: when these basis converge, markets seem adopt the same strategy. This is true in particular for Portugal, Ireland and Greece. When we investigate for price discovery, data show that the CDS market moves ahead the bond market, even if for some countries this relation is not clear. Finally, our empirical analysis on basis determinants shows that: i) the global risk factor iTraxx Europe contributes to increase the basis; ii) the markets' risk aversion does not offer a direct contribution, while iii) the banking sector vulnerability proxy offers a negative contribution, in particular for Ireland.