The Regulation of Systemically Relevant Banks: How Governments Should Manage Their Exposure to Banking System Risk (Finanzwirtschaft, Banken und Bankmanagement I Finance, Banks and Bank Management)

Sebastian Moenninghoff provides an extensive overview of the status of the 'Too-Big-to-Fail' doctrine post-crisis and develops the first comprehensive framework to categorize and discuss the full range of major policy options for regulating banks. Governments need to actively manage their exposure to banking system risk with the optimal policy mix depending on risk return preferences of a society and an economy's institutional setting. The new regulation for global systemically important banks developed by international regulators following the financial crisis is a significant step in expanding the tools to manage government exposure to banking system risk. Contents Comprehensive Review of the Post-Crisis Status of the 'Too-Big-to-Fail' Doctrine Novel Quantitative Framework to Categorize and Discuss the Full Range of Major Policy Options for Bank Regulation Empirical Examination of the New International Regulation Dealing with Global Systemically Important Banks Target Groups Researchers and students in the fields of economics with a focus on finance and banking Practitioners in the fields of financial services, banking, regulation, politics, and journalism The Author Sebastian Moenninghoff works in the financial services industry in New York. He has extensive experience advising financial institutions in the U.S. and Europe during and after the financial crisis and has published and taught on banking regulation and financial innovation.-- Provided by publisher Foreword 6 Preface 9 Table of Contents 10 List of Abbreviations 13 List of Figures 15 List of Tables 16 1. Introduction 17 2. Consequences of Government Guarantees for Banks – A Survey of the TBTF Doctrine 19 2.1 Introduction 19 2.2 Surveys of Government Guarantees for Banks 21 2.3 TBTF as a Consequence of Government Guarantees 22 2.3.1 Consequences of government guarantees 22 2.3.2 The logic of the TBTF doctrine 24 2.3.3 Alternative theories in the context of government guarantees for banks 24 2.3.4 Empirical approaches to measuring the prevalence of TBTF 26 2.4 Government Exposure and Subsidies 27 2.4.1 Contingent claims approach and absolute subsidy estimates 27 2.4.2 Funding advantages based on contingent claims approach and rating-implied spreads 29 2.4.3 Costs of past rescue measures 31 2.4.4 Summary of empirical evidence of government exposure and subsidies 32 2.5 Competitive Distortions from Government Guarantees 33 2.5.1 Dimensions of competitive distortions 33 2.5.2 Empirical approaches to measure guarantee-return relationships 35 2.5.3 Empirical evidence of competitive distortions 37 2.5.3.1 Competitive distortions by individual institution systemic relevance 37 2.5.3.2 Competitive distortions by scope of activities covered by guarantees 46 2.5.3.3 Competitive distortions by geography 47 2.5.4 Summary of empirical evidence of competitive distortions 49 2.6 Government Guarantees and Risk Taking 50 2.6.1 The concept of moral hazard in banking 50 2.6.2 Empirical approaches based on guarantee-risk relationships 52 2.6.3 Empirical findings based on guarantee-risk relationships 52 2.6.4 Summary of empirical evidence of bank risk taking based on guarantee-risk relationships 55 2.6.5 Empirical approaches based on risk-return relationships 57 2.6.6 Empirical findings based on risk-return relationships 58 2.6.7 Summary of empirical evidence of bank risk taking based on risk-return relationships 60 2.7 Conclusion 61 3. Government Guarantees and Banking System Risk – A Regulatory Framework from an Exposure Perspective 63 3.1 Introduction 63 3.2 Banking System Exposure from a Credit Risk Perspective 65 3.2.1 Fundamentals of an exposure perspective for banking system risk 65 3.2.2 Structural credit risk modeling in regulatory capital determination 69 3.2.3 Application of structural credit risk models to government guarantees for banks 70 3.2.4 Credit risk components of banking system exposure 72 3.2.4.1 Probability of distress 73 3.2.4.2 Exposure at distress 73 3.2.4.3 Loss given distress 74 3.2.5 An exposure-based framework of principle policy choices 79 3.3 Banking System Exposure from a Sovereign Portfolio Perspective 81 3.3.1 Introduction to sovereign portfolio management 81 3.3.2 Macroeconomic tradeoffs implied by regulatory policy choices 82 3.3.3 Banking system exposure management from a portfolio perspective 84 3.4 Regulatory Policy Options and Their Economic Tradeoffs 87 3.4.1 Management of probability of distress 87 3.4.1.1 Zero exposure: Narrow banking with all-equity financed banks 87 3.4.1.2 Limited exposure: Minimum capital and liquidity requirements 89 3.4.2 Management of loss given distress 93 3.4.2.1 Zero exposure: Narrow banking with assets restricted to government securities 93 3.4.2.2 Limited exposure: Structural restrictions 97 3.4.2.3 Limited exposure: Pigovian tax 98 3.4.2.4 Limited exposure: Resolution powers and wind-down authorities 100 3.4.3 Management of exposure at distress 102 3.4.3.1 Zero exposure: Free banking 102 3.4.3.2 Limited exposure: Bail-inable claims 103 3.4.3.3 Full exposure: Nationalization of the banking system 106 3.4.4 Growth-stability tradeoff 107 3.4.5 Exposure factor interaction and interconnections 110 3.5 Discussion and Conclusion 112 3.5.1 Institutional design, financial system structure and international policy 112 3.5.2 The new regulation dealing with Global Systemically Important Banks 115 3.5.3 Results, limitations and future research 116 3.5.4 Conclusion 118 4. Empirical Evidence from the New International Regulation Dealing with Global Systemically Important Banks 120 4.1 Introduction 120 4.2 G-SIB Regulation and Hypotheses 122 4.2.1 Explicit and implicit government guarantees 122 4.2.2 New G-SIB regulation 123 4.2.3 Hypotheses 124 4.3 Data and Methodology 125 4.3.1 Sample 125 4.3.1.1 Sample compilation 125 4.3.1.2 Sub-sample definitions 126 4.3.1.3 G-SIB designation 126 4.3.2 Event dates 129 4.3.3 Methodology 130 4.3.3.1 Abnormal return calculation 130 4.3.3.2 Test statistics 132 4.4 Empirical Results 133 4.4.1 Overall results 134 4.4.2 Regulatory announcements 135 4.4.3 Designation announcements 138 4.4.4 Cross-sectional analysis of G-SIB returns 140 4.5 Conclusion 145 5. Conclusion 147 Bibliography 150 List of Appendices 163 Appendix 164 Front Matter ....Pages I-XIX Introduction (Sebastian C. Moenninghoff)....Pages 1-2 Consequences of Government Guarantees for Banks – A Survey of the TBTF Doctrine (Sebastian C. Moenninghoff)....Pages 3-46 Government Guarantees and Banking System Risk – A Regulatory Framework from an Exposure Perspective (Sebastian C. Moenninghoff)....Pages 47-103 Empirical Evidence from the New International Regulation Dealing with Global Systemically Important Banks (Sebastian C. Moenninghoff)....Pages 105-131 Conclusion (Sebastian C. Moenninghoff)....Pages 133-135 Back Matter ....Pages 137-170