Financial Stability In Europe Research Articles

Expansionary monetary policy vs. bank concentration: The Eurozone & other European countries

Expansionary monetary policy, combined with unconventional measures, led to a decline in the profitability of U.S. and European banks. In this paper, we study whether such measures also affected the asset concentration in the European banking sector. The findings of this research add value to previous research, taking a step deeper into examining the consequences of expansionary monetary policy. We find that reductions in the ECB?s key policy rate can predominantly explain the concentration growth in the Eurozone countries. The ECB?s monetary policy had a more substantial influence on the growth of the concentration of banks outside the Eurozone than the own monetary policies of those countries. In this way, expansionary monetary policy poses specific challenges to financial stability in Europe.

Short-selling restrictions and financial stability in Europe: Evidence from the Covid-19 crisis

In March 2020, six European countries imposed temporary short-selling bans to prevent further stock price declines, to reduce volatility, and to ensure financial stability during the Covid-19 pandemic, whereas other countries abstained from implementing these restrictions. We examine the effects of these regulatory interventions on stock returns and market quality for major European countries with and without bans. Our results reveal that restricting short selling did not stabilize stock prices but adversely affected market liquidity, as reflected in wider bid-ask spreads and lower turnover. In addition, smaller stock markets and smaller firms suffered more from the deterioration in market quality. Using logit regressions, we investigate the determinants for the probability that a country would impose short-selling restrictions. The results suggest that countries with weaker economies, lower fiscal capacity, less financial development, and stricter lockdown measures were more likely to adopt a ban. Overall, short-selling bans during the Covid-19 crisis negatively affected market quality and consequently regulators in general should abstain from implementing such restrictions in the future.

Is COVID-19 a Threat to Financial Stability in Europe?

The severe economic impact of the COVID-19 pandemic could threaten financial stability. However, assessing the gravity of this threat is challenging, since banks' accounting-based loan loss provisions are sluggish. We use a Merton contingent claims model to provide a real-time, market valuation-based assessment of the impact of COVID-19 on euro area banks' corporate loan portfolios. We calibrate the model based on observed stock price responses and use different scenarios for future volatility and incurred losses in case of default. Based on stock prices as of April 20, 2020, we estimate that the market-implied losses for euro area banks could reach over €1 trillion, or 4 to 25% of corporate credits' book value (7 to 43% of available capital and reserves). Our analysis can be viewed as an early warning indicator of potential accounting losses to follow.

Bank regulation and risk in Europe and Central Asia since the global financial crisis

This paper examines changes in bank capital and capital regulations since the global financial crisis, in the Europe and Central Asia region. It shows that banks in Europe and Central Asia are better capitalized, as measured by regulatory capital ratios, than they were prior to the crisis. However, the increase in simple equity ratios for the same banks has been smaller over the past 10 years. The increases in regulatory capital ratios have coincided with a reduction in the stringency of the definition of Tier 1 capital and reduction in risk-weights. We further analyze the relationship between bank capital and bank risk using individual bank data. We show that bank risk in Europe and Central Asia is more sensitive to changes in simple leverage ratios than changes in regulatory capital ratios, consistent with the notion that equity ratios only include high-quality capital and do not rely on internal risk models to compute risk-weights. Although there has been some effort to increase capital and liquidity requirements for institutions deemed systemically important, the region has been lagging in addressing the resolution of these institutions. In line with Demirguc-Kunt, Detragiache, and Merrouche (2013), our findings show the importance of the definition of bank capital to assure bank financial stability in Europe and Central Asia.

Financial stability in Europe: Banking and sovereign risk

We analyze the link between banking sector quality and sovereign risk in the whole European Union over 1999–2014. We employ four different indicators of sovereign risk (including market- and opinion-based assessments), a rich set of theoretically and empirically motivated banking sector characteristics, and a Bayesian inference in panel estimation as a methodology. We show that a higher proportion of non-performing loans is the single most influential sector-specific variable that is associated with increased sovereign risk. The sector’s depth provides mixed results. The stability (capital adequacy ratio) and size (TBA) of the industry are linked to lower sovereign risk in general. Foreign bank penetration and competition (a more diversified structure of the industry) are linked to lower sovereign risk. Our results also support the wake-up call hypothesis in that markets re-appraised a number of banking sector-related issues in the pricing of sovereign risk after the onset of the sovereign crisis in Europe.

Capital Market Union — Resistance to Change in Financial Market Systems

In 2015, the European Commission announced that it would push to create a European wide capital market union to support economic growth and financial stability in Europe. The agenda of the EU Commission is ambitious, because the success of such a plan would transform the European financial systems, most of which are still much more reliant on banks than on financial markets, as opposed to the US, for example. A cluster analysis shows, however, that national financial systems are resistant to change, which can only be implemented in the long run. Nevertheless, the past 20 years have seen financial markets gaining more importance for all economies.

Financial Stability in Europe: Banking and Sovereign Risk

We analyze the link between banking sector quality and sovereign risk in the whole European Union over 1999–2014. We employ four different indicators of sovereign risk (including market- and opinion-based assessments), a rich set of theoretically and empirically motivated banking sector characteristics, and a Bayesian inference in panel estimation as a methodology. We show that a higher proportion of non-performing loans is the single most influential sector-specific variable that is associated with increased sovereign risk. The sector’s depth provides mixed results. The stability (capital adequacy ratio) and size (TBA) of the industry are linked to lower sovereign risk in general. Foreign bank penetration and competition (a more diversified structure of the industry) are linked to lower sovereign risk. Our results also support the wake-up call hypothesis in that markets re-appraised a number of banking sector-related issues in the pricing of sovereign risk after the onset of the sovereign crisis in Europe.

The Asymmetric Implementation of the European Banking Union (EBU): Consequences for Financial Stability

Abstract EU Member States outside the Eurozone are hesitating to enter the European Banking Union (EBU) and to establish “close cooperation” in bank supervision with the ECB. This paper analyzes the consequences of such asymmetric integration for financial stability in Europe. It argues that the main obstacles against establishing close cooperation are a lack of voting rights and insufficient access to the fiscal backstop provided by the European Stability Mechanism (ESM). The paper presents arguments as to why international cooperation in bank supervision could be welfare improving, if multinational banks are dominant. It also discusses suitable reform options for making it more attractive for EU Member States to begin a close cooperation with the ECB.

Expert advice and political choice in constructing European banking union

International actors promoted the transfer of regulatory authority and financial resources from national governments to the European Union (EU) in the context of establishing the prerequisites for financial stability in Europe through banking union. It was supplied, however, by a political process that kept significant resources in resolution and deposit insurance largely in national hands. This article examines the politics behind those decisions, and how the hybrid of European and national competences affects bank regulation and financial stability in the EU. It concludes that the tension between strong EU supervisory powers and weak capacity to deal with insolvent institutions will persist.

Impact of regulation and supervision on European banks’ stability

This article applies the Generalized Method of Moments technique for dynamic panels, using bank-level data for the selected European countries over the period 2005 to 2011, to investigate the impact of regulation and supervision on risk taking. Three conclusions are reached. First, in France, Germany and UK, restriction on bank activities boosts banking stability. However, supervisors’ power and capital adequacy encourage risk taking. Second, in Italy, Greece and Spain, we find that with more supervisors’ power, largest banks tend to take greater risks and strengthening regulation and supervision weakens the bank’s stability. However, the capital requirements decrease the risk taking. Third, strengthening regulatory and supervisory framework, and compliance with Basel principles enhance financial stability in Europe. These different results between European countries show that the application of regulation and supervision depends on the monitoring mode and the rhythm of application of regulatory policies

Power Politics and the Undersupply of Financial Stability in Europe

ABSTRACTThis article analyses the politics of banking and fiscal union in the EU in the context of continued threats to financial stability in Europe. Contrasting the expectations of functional responses and power politics, it finds that the behavior of the states and the outcome of negotiations most closely resembles contemporary realist expectations. Minimal supranationalism takes place to prevent complete collapse, but the main development is that financially powerful member states coerce and impose changes on weaker member states, without committing to the financial transfers that the latter require to survive the financial crisis, with negative consequences for European financial stability.

A European Roadmap towards a Common Resolution Approach

The current framework of voluntarily cooperation in Europe fails to produce the public good of financial stability. The paper identifies coordination failures and argues for European arrangements. An integrated approach is proposed. The starting, and politically most controversial, point is a binding burden sharing agreement to resolve cross border banks in difficulties. This would be the key element of a common resolution approach.The quest for financial stability in Europe should also look at the incentive structure to give information. Currently, a supervisor has no incentive to provide other EU supervisors or central banks with up to date information about potential difficulties in financial institutions. Moreover, national supervisors and central banks do not always timely share stability concerns in their domestic financial system with the newly envisaged European bodies. The introduction of a European mandate for financial supervision and stability replacing national mandates could resolve the incentive problem.

Consolidation in banking and financial stability in Europe: Empirical evidence

Using aggregate balance sheet data from banks across the EU-25 over the period from 1997 to 2005 we provide empirical evidence that national banking market concentration has a negative impact on European banks’ financial soundness as measured by the Z-score technique while controlling for macroeconomic, bank-specific, regulatory, and institutional factors. Furthermore, our analysis reveals that Eastern European banking markets exhibiting a lower level of competitive pressure, fewer diversification opportunities and a higher fraction of government-owned banks are more prone to financial fragility whereas capital regulations have supported financial stability across the entire European Union.

European Banking Distress and EMU: Institutional and Macroeconomic Risks

Financial stability in Europe has received renewed attention with the advent of EMU. This paper examines whether EU country banking systems are particularly vulnerable to systemic risk. Our approach is to explore episodes of banking sector distress for a large sample of countries, highlighting the experience of the EU. We estimate multivariate probit models linking the likelihood of banking problems to a set of macroeconomic variables and institutional characteristics such as aspects of bank supervision and regulation, restrictions on bank portfolios, and development of the banking system. Given these characteristics, the model predicts a low probability of banking sector distress in EMU countries. JEL classification: G21; E44; F41

European Banking Distress and EMU: Institutional and Macroeconomic Risks

Financial stability in Europe has received renewed attention with the advent of a common currency, wave of mergers and acquisitions among financial institutions, and greater market competition (e.g. ECB, 1999; IMF, 1999; OECD, 1999). This paper examines whether EU country banking systems are particularly vulnerable to systemic risk at present. Our approach is to examine episodes of banking sector distress for a large sample of countries, highlighting the experience of the EU. We estimate multivariate probit models linking the likelihood of banking problems to a set of macroeconomic variables and institutional characteristics. Institutional characteristics, made available by a new data set on corporate governance in the financial sector not previously used in this type of analysis, include aspects of bank supervision and regulation, restrictions on bank portfolios, and development of the banking system. Given these characteristics, the model predicts a low probability of banking sector distress in EMU countries.