Regulation Of Financial Institutions Research Articles

Dynamic volatility regulation of financial institutions

Unlike non-financial firms, financial institutions are often heavily regulated to prevent bankruptcies and negative spillovers. A main regulatory tool is risk-based capital requirements. To reflect this reality, we develop a model that allows for dynamically updated asset risk, in contrast to standard contingent claim models that assume constant volatility. Regulators impose a decrease in asset volatility when the capital cushion becomes small, thereby reducing the risk of distress. We show that such regulation of financial institutions affects their credit spreads, credit ratings, transition matrices, valuation of liabilities, cost of deposit insurance, and risk-shifting incentives.

The Impact of Transitory Climate Risk on Firm Valuation and Financial Institutions: A Stress Test Approach

Addressing recent calls by European regulatory and supervisory authorities, we develop a new bottom-up climate risk assessment method to examine the resilience of the European banking industry regarding transitory climate risks. We illustrate our approach by estimating the impact of a 50–100 EUR carbon tax per tCO2\\documentclass[12pt]{minimal} \\usepackage{amsmath} \\usepackage{wasysym} \\usepackage{amsfonts} \\usepackage{amssymb} \\usepackage{amsbsy} \\usepackage{mathrsfs} \\usepackage{upgreek} \\setlength{\\oddsidemargin}{-69pt} \\begin{document}$$\ extit{tCO}_{2}$$\\end{document} equivalent on the valuation and default risk of STOXX Europe 600 firms. For about 5% of the sample firms, we find asset devaluation shocks larger than 30% and for about 16% of the firms probabilities of default (PDs) dropping below investment-grade level of 3%. At the sector level, our results yield asset devaluations shocks of 15–36% and new PDs of 5–34% for the six most affected sectors. Running a stress test on credit risk based on these results, we find a decrease in capital ratios between -1.2\\documentclass[12pt]{minimal} \\usepackage{amsmath} \\usepackage{wasysym} \\usepackage{amsfonts} \\usepackage{amssymb} \\usepackage{amsbsy} \\usepackage{mathrsfs} \\usepackage{upgreek} \\setlength{\\oddsidemargin}{-69pt} \\begin{document}$$-1.2$$\\end{document} and -1.6\\documentclass[12pt]{minimal} \\usepackage{amsmath} \\usepackage{wasysym} \\usepackage{amsfonts} \\usepackage{amssymb} \\usepackage{amsbsy} \\usepackage{mathrsfs} \\usepackage{upgreek} \\setlength{\\oddsidemargin}{-69pt} \\begin{document}$$-1.6$$\\end{document} percentage points for key regulatory capital ratios in the most adverse scenario while only addressing 36% of the bank’s total risk-weighted assets. Our analysis sheds light on the substantial transitory climate risk for asset portfolios of banks and contributes to the pressing question how to integrate climate risk into risk management and regulation of financial institutions.

Critical condition for deposit insurance to partially or fully substitute for raising capital under cyclical economic environment

<p><big>Regulation of financial institutions has two key purposes: Solvency (prudential regulation) and consumer protection. Prudential regulation is implemented mainly by capital requirements, but governments also provide insurance for customer deposits, as a backup tool. In this article, we discuss the critical conditions for deposit insurance and capitalization to act as substitutes for each other, under cyclical economic environment. We make two assumptions. The first one is that deposit insurance is fairly priced and there is no moral hazard. The second one is that insurance creates incentives for moral hazard among insured banks, resulting in increased risk taking. We also discuss the critical conditions for deposit insurance and capitalization to be complementary under different proportions of deposit insurance.</big></p>

The Global Financial Crisis and Its Impact on Banking Risk Management

This paper explores the significance of researching the financial collapse in light of the present pandemic and the uncertain economic climate of the Russian-Ukrainian conflict. This paper examines the causes, methods, and repercussions of the most significant financial crisis of 2008 as the focus of our study. This raises the question of whether there is a need for more regulation of the banking industry in order to enhance its ability to respond to future financial crises. Unrestricted lending policies and blind economic expansion strategies have been found to expose financial institutions to larger dangers. The examination of the three regulatory agreements demonstrates that the importance of a robust regulatory framework to increase the financial system's stability cannot be overstated. While the global onset of a financial crisis is a low-probability event, it is of the utmost importance that the regulation of financial institutions constantly adapts to new difficulties and uncertainties in light of shifting economic and geopolitical conditions.

Державне регулювання розвитку інноваційно-інформаційних технологій у сфері фінансових послуг

The development of innovative information technologies in the modern world has become a necessity for improving the efficiency of activities of financial institutions and improving the quality of financial services provided to economic agents. The State plays an important role in creating a favorable environment for the implementation of such technologies. However, the introduction of innovative technologies by financial institutions is associated with risks that require the State-based regulation to ensure the stability and reliability of functioning of a financial system. The article discusses the issues of improving the State-based regulation of the processes of development and introduction of information and innovative technologies by financial institutions in Ukraine. Particular attention is paid to the substantiation of the need for such regulation. It is determined that the construction of a model of such regulation should be based on the balance of interests of financial institutions, their desire to implement digital technologies for their own development, on the one hand and, on the other hand, their clients, who want to be sure that their personalized information will not be made public to third parties thus leading to a loss of financial resources. The article fragmentarily analyzes the current trends in the development of banking and non-bank financial institutions, describes the transformation processes that have taken place in the model of the State-based regulation of financial institutions in Ukraine. As a result, taking into account the current objective processes of digitalization of both the activities of financial institutions and public authorities that regulate them, measures for the formation and ensuring the effectiveness of the State-based regulation on the introduction of information and communication technologies by financial institutions are proposed, namely: creation of a transparent and open regulatory environment; ensuring a high level of cybersecurity and protection of the customers’ personal data; promoting active cooperation between the State-based regulators, financial institutions, and public organizations for the development and implementation of innovative solutions in the field of balanced use of such technologies.

The Role of the Sharia Supervisory Board in Protecting Member Rights on Murabahah Financing Products

The Sharia Supervisory Board's primary responsibility is to monitor and ensure that all business operations at BMT BEST are conducted in accordance with sharia principles as outlined by the National Sharia Council. Qualitative, descriptive methods were employed for this study. The study's findings led to the conclusion that BMT BEST's Sharia Supervisory Board serves primarily as a meeting venue for outside consultants who advise on matters pertaining to the regulation of financial institutions. Policy guidance for BMT BEST's initiatives was contributed by DPS. Because it is simpler to put into reality than other products with similar characteristics, murabaha finance has seen a surge in popularity in recent years. This money can be used for any number of things, including making purchases, investments, etc. To fulfill its duty to safeguard its members against usury transactions on murabahah financing products, BMT works to verify that contracts for murabahah financing implemented at BMT BEST adhere to sharia regulations. To prevent usury transactions, sharia-compliant contracts for murabahah finance are implemented.

Influence of Financial Social Agents and Attitude Toward Money on Financial Literacy: The Mediating Role of Financial Self-Efficacy and Moderating Role of Mindfulness

This study examines the relationship between the financial socialization agents, attitude toward money, and financial literacy with the mediating role of financial self-efficacy and the moderating role of mindfulness. The self-administered questionnaire was used for data collection from higher education institutions using the convenience sampling method because the sampling frame was not available. The data were tested using partial least square structural equation modeling (PLS-SEM) in smart PLS. The results indicated a positive relationship between financial self-efficacy, financial socialization agents, attitude toward money, mindfulness, and financial literacy. The finding of mediation analysis suggests the significant mediation effect of financial self-efficacy between attitude toward money and financial social agents with financial literacy. The mediation of financial self-efficacy between attitude toward money and financial literacy has the greatest impact which indicates that students with positive attitude and self-efficacy create high financial literacy. Whereas mindfulness positively moderates the relation of attitude toward money and financial literacy and negatively moderates the relation of financial self-efficacy and financial literacy while mindfulness does not moderate the relation of financial socialization agents and financial literacy. The findings of this research are of use to different stakeholders who are users or regulators of financial institutions because enhancing financial literacy has become a priority.

Sharia Economic Law Regulation on The Development of Sharia Financial Institutions in Indonesia

The analysis of this study aims to provide an objective description and suggest to be able to strengthen and optimize related to the regulation of financial institutions or Islamic banking. In this case, the researcher uses a normative juridical method whose research refers to the rules or regulations of law as reference data which is analyzed with a qualitative description pattern. And the result is that this research illustrates that legal regulations play a role in the development, empowerment and establishment of the regulation of Islamic economic or financial institutions. The implication of study is the creation of progress and synchronization or correlation between financial institutions or Islamic banking in Indonesia. The harmony of regulations and the harmony of legal regulations must have an impact on public trust and have an impact on improving service facilities, protection for the community or customers, economic actors and even Islamic financial institutions themselves.

A Network Evolution Model of Credit Risk Contagion between Banks and Enterprises Based on Agent-Based Model

Credit risk contagion between banks and firms is one of the important triggers of financial crisis, and the credit linkage network is the way of systemic risk contagion triggered by external shocks. Considering the heterogeneity of behavioral rules, learning rules, and interaction rules, this paper constructs a bank-firm credit matching network model based on ABM (agent-based model) model and reinforcement learning algorithm to analyze the interaction behavior and credit risk network contagion mechanism. The results show that (1) macroeconomic cycles are the result of the interaction between banks and enterprises and the interaction of microentities under complex financial conditions; (2) enterprises are heterogeneous and the asset size follows a power-law distribution; (3) the greater the sensitivity of banks and enterprises to market performance, the lower the bank failure rate and enterprise default rate; and (4) shocks to the largest banks and enterprises in terms of assets and entry can all intensify the risk contagion between banks and enterprises. Therefore, the regulation of financial institutions that are “too big to fail” is not sufficient but should be a comprehensive regulation of the banking system.

The impact of loan to value to property credit growth sustainability in Indonesia

After the 2008 global financial crisis triggered by the subprime mortgage in the United States, financial services authorities in various countries increasingly realized that surveillance and regulation of financial institutions were not enough only through micro-prudential approach, which intended to maintain individual financial institutions, but required macro-prudential surveillance and regulation in maintaining financial system stability. The macroprudential policy aims to limit systemic risks occurring in financial distress conditions that lead to broader economic losses. One of the macro-prudential policy instruments applied by the financial services authorities in various countries, including Indonesia, is the Loan-to-Value ratio limitation. This countercyclical policy is intended to control the rate of growth in property credit. This paper discusses the effects of limiting the Loan-to-Value (LTV) ratio by Bank Indonesia on the growth of bank property credit in Indonesia. Using ordinary least squares, the results of this study conclude that adopting a tightening LTV policy when economic growth high has a significant influence in holding back the pace of five months of property credit growth after the policy was issued. While the LTV policy’s implementation, which is loosening when economic growth is slowing down, has no significant effect in driving the pace of property credit growth.

Impact of Government Bailout on Banks’ Cost of Equity: Additional Evidence from the Financial Bailout of 2008–2009

The Capital Purchase Program (CPP) was the first and most significant program under the Troubled Asset Relief Program (TARP) during 2008–2009 financial crisis. This study evaluates the effect of the CPP during this period on the cost of equity of 170 publicly listed banks in the United States that received funding. To control for the potential effects of endogeneity on our results, we use a propensity score matched sample of non-CPP banks. Using this approach, we document robust evidence that the liquidity provided by the government bailout reduced the cost of equity for recipient banks, especially for those banks that repaid their bailout funds in full. This decrease in the cost of equity is particularly significant for banks with high market-to-book ratios, low concentrations of institutional ownership, and those banks with at least one large blockholder. Our findings have important implications for the assessment of government bailout programs and the future regulation of financial institutions.

Institutional quality and social cost of intermediation in Africa: Does the level of financial market development matter?

AbstractThis article examines the effect of institutional quality on social cost of intermediation in high and low developed financial markets across 29 African countries between 2006 and 2013. Employing bootstrap‐quantile and two‐step system generalized methods of moments models with bank level data of about 330 banks, the results provide interesting and new insights. The results show that improvement in institutional quality in high or low developed financial markets translates into reduced social cost of intermediation to the society. However, it is evident from the results that improvement in institutional quality is more robust, persistent and weightier in reducing the social cost of intermediation in low developed financial markets which are often characterized with weak regulatory regimes and enforcement. Hence, improvement in institutional quality shores up regulatory supervision, monitoring and enforcement which translates into heavier dampening of social cost of financial intermediation in less developed financial markets. Moreover, bank size, credit shocks, return on equity and liquidity are key drives of social cost of intermediation both in low and high developed financial markets. These findings have policy implications and recommendations for policymakers and regulators of financial institutions. Policymakers and regulators, especially those in less developed financial markets, must endeavour to create, implement and advance mechanisms and enabling environment that enhances the quality of institutions since improved institutional quality reduces social cost of intermediation to the benefit of society.

Contrasting Worldviews at Bank and Securities Market Regulators

AbstractBank and securities regulators operate with different attitudes about the appropriate regulation of financial institutions and markets. Bank regulators’ prudential oversight protects depositors from worrying about the repayment of their bank claims. In contrast, securities market regulators tend to presume that security markets (almost) always clear quickly at prices close to the asset's fundamental value. These regulators seek to assure full disclosure of information, which facilitates active securities trading. In the United States, the Securities and Exchange Commission's (SEC) investor protection duties are tailored to the financial sophistication of individual investors.

Impact of Government Bailout on Banks' Cost of Equity: Additional Evidence from the Financial Bailout of 2008-2009

This study evaluates the effect of the Capital Purchase Program during the 2008-2009 financial crisis on the cost of equity of 170 publicly listed banks in the United States that received funding. We document robust evidence that the liquidity provided by the government bailout reduced the cost of equity for recipient banks, especially for those banks that repaid their bailout funds in full. The decrease in the cost of equity is particularly significant for banks with high market-to-book ratios, low concentrations of institutional ownership, and those with at least one large blockholder. Our findings have important implications for the assessment of government bailout programs and future regulation of financial institutions.

Influence Activities, Coalitions, and Uniform Policies: Implications for the Regulation of Financial Institutions

We examine a setting in which agents can form lobbying coalitions to influence a policy maker. Policy uniformity causes agents to free ride on each other’s lobbying and gives them an incentive to form lobbying coalitions. We investigate when coalitions are formed by similar or dissimilar agents and show that endogenous coalition formation causes the effects of policy uniformity and lobbying costs on aggregate lobbying activity and policy strength to be nonmonotonic. Our model suggests that increased competition in the market for coalition-facilitating lobbyists can lead to less lobbying. We discuss implications for the regulation of financial institutions. This paper was accepted by Shiva Rajgopal, accounting.

Contrasting Worldviews at Bank and Securities Market Regulators

Bank and securities regulators operate with different attitudes about the appropriate regulation of financial institutions and markets. Bank regulators’ prudential oversight protects depositors from worrying about the repayment of their bank claims. In contrast, securities market regulators tend to presume that security markets (almost) always clear quickly at prices close to the asset’s fundamental value. These regulators seek to assure full disclosure of information, which facilitates active securities trading. In the United States, the SEC’s investor protection duties are tailored to the financial sophistication of individual investors.

The Amazing, Elastic, Ever-Expanding Exportation Doctrine and Its Effect on Predatory Lending Regulation

Recent dramatic growth in predatory lending practices has reinvigorated calls for more effective regulation of consumer credit, primarily at the state level. This paper argues that a banking law principle known as the Exportation Doctrine has rendered individual state laws largely ineffectual in curbing predatory lending. However, this paper concludes that the expanded Exportation Doctrine, with a little bit of tweaking, could be shaped into a potent legal tool for regulating predatory lending, more effective than individual state legislation currently under consideration. The Exportation Doctrine has evolved from a discrete statutory privilege enacted during the Civil War to promote the national bank system, to an expansive legal doctrine allowing almost any type of corporate entity to establish a nationwide consumer lending program unrestrained by individual state consumer credit laws. This evolution was the result of a confluence of forces, including: individual depository institutions challenging various banking regulations; banking regulatory agencies accommodating their constituencies; power plays among the federal banking agencies, as well as among the state and the federal banking agencies; occasional Congressional actions in discrete, often seemingly unrelated areas of banking law; and courts almost uniformly deferring to the judgments of the federal banking agencies in issues related to the regulation of financial institutions. The Doctrine originated in a federal banking law permitting national to charge at the rate allowed under the laws of the state where the bank is located (12 U.S.C. Section 85). This paper traces the historical expansion of the Exportation Doctrine along three distinct dimensions. First, the geographic reach of the Doctrine was expanded, to transform the location of a bank from a meaningful restrictive concept to matter of choice. Second, the substantive scope of the Doctrine was expanded, as the term interest was interpreted to include not just numerical rates, but all credit terms material to the determination of the rate. Third, the orbit of the beneficiaries of the Doctrine was expanded, initially to include state and savings and loan associations, and, more recently, to include corporate entities acquiring nonbank banks (such as credit card banks, unitary thrifts, or industrial loan companies) or entering into contractual arrangements with to offer products such as cobranded credit cards, refund anticipation loans, and payday loans. After describing the evolution of the Doctrine, this paper analyzes whether the various dimensions of the expansion are justified under basic principles of banking law. The paper concludes that the expansion of the geographic reach and substantive scope of the Doctrine is compatible with banking law doctrine and probably not susceptible to legal challenge. However, the expansion of the orbit of the beneficiaries of the Doctrine is incompatible with the separation of banking and commerce, and thus susceptible to legal challenge. Nevertheless, after examining the recent actions of the federal banking regulators in curbing predatory lending practices conducted by depositary institutions, this paper concludes that a robust Exportation Doctrine might be the most effective legal mechanism that exists for curbing predatory lending practices.

Operational risk quantified with spectral risk measures: a refined closed-form approximation

The quantification of operational risk has become an important issue as a result of the new capital charges required by the Basel Capital Accord (Basel II) to cover the potential losses of this type of risk. In this paper, we investigate second-order approximation of operational risk quantified with spectral risk measures (OpSRMs) within the theory of second-order regular variation (2RV) and second-order subexponentiality. The result shows that asymptotically two cases (the fast convergence case and the slow convergence) arise depending on the range of the second-order parameter. We also show that the second-order approximation under 2RV is asymptotically equivalent to the slow convergence case. A number of Monte Carlo simulations for a range of empirically relevant frequency and severity distributions are employed to illustrate the performance of our second-order results. The simulation results indicate that our second-order approximations tend to reduce the estimation errors to a great degree, especially for the fast convergence case, and are able to capture the sub-extremal behavior of OpSRMs better than the first-order approximation. Our asymptotic results have implications for the regulation of financial institutions, and may provide further insights into the measurement and management of operational risk.

Comment on 'Error and Regulatory Risk in Financial Institution Regulation'

I agree with just about everything Jonathan Macey (2017) says in his symposium contribution. His claim that bureaucratic tendencies toward regularity—specifically, treating like cases alike—generate errors in categorization seems appropriate to me. His explanations of the pathologies in financial regulation should fall in the category of essential or required reading for anyone who chooses to write on the topic. Where I differ from Macey is in the choice of framework, or perspective from which to view the pathologies. Whereas Macey adopts an “error cost” framework, which is clearly appropriate for this symposium, I would build explicitly on a “public choice” framework.

The corporate governance–risk-taking nexus: evidence from insurance companies

PurposeThis study aims to examine the impact of internal corporate governance mechanisms on insurance companies’ risk-taking in the UK context.Design/methodology/approachThe study uses a panel data of all listed insurance companies on FTSE 350 over the 2005-2014 period. Multivariate regression techniques are used to estimate the effect of internal corporate governance mechanisms on insurance companies’ risk-taking.FindingsThe results show that the board size and board meetings are significantly and negatively related to risk-taking. In contrast, the results show that board independence and audit committee size are statistically insignificant but negatively related to risk-taking. The findings are robust to alternative measures and endogeneities.Research limitations/implicationsThe findings have important implications for investors, managers, regulators of financial institutions and effectiveness of corporate governance reforms that have been pursued. Investors may further rely on internal corporate governance attributes to form expectations about risk-taking behaviour. Insurance companies need strong governance, as well as effective accounting and financial reporting standards, to enable proper insights into the company’s financial position.Originality/valueThis study contributes to the corporate governance literature and creates significant evidence regarding the role of corporate governance in constraining risk-taking behaviour in an industry with significantly complex context.