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Abstract:
In this paper, the relation between bank risk-taking and operating efficiency is investigated in a simultaneous equations setting. While inefficiency is found to have positive effects on both credit risk and interest rate risk, it also has a positive effect on capitalization. The positive effect of inefficiency on risk-taking supports the moral hazard hypothesis that firms with poor performance are more vulnerable to risk-taking than high performance banking organizations. The positive effect of inefficiency on the level of capital is attributable to regulatory pressure on under performing firms to have more capital. Regulators prefer to discipline weak and inefficient firms by imposing higher capital requirement rather than through imposing portfolio restrictions, possibly because capital is more transparent and can be measured accurately. We also find that credit risk, interest rate risk, and capitalization seem to be jointly determined, reinforcing and compensating each other. At the same time, operating efficiency is affected by and related to bank risk-taking. Firms with more capital are found to operate more efficiently than firms with less capital, indicating that the level of capitalization is a good proxy for performance. We find mixed results regarding the effects of credit risk and interest rate risk on operating efficiency. Interestingly, a U-shaped relationship between inefficiency and loan growth rate is detected. Up to a certain point, operating efficiency improves at a decreasing rate as loan growth rate increases. This is consistent with the hypothesis that sustainable loan growth is accomplished by good management, which operates close to the efficient frontier. However, at excessive growth rate, operating efficiency decreases with loan growth. The finding supports the hypothesis that entrenched managers who pursue a growth objective to enhance their own wealth tend to operate inefficiently.

Abstract:
We assess the market microstructure properties of U.S. banking firms? equity, to determine whether they exhibit more or less evidence of asset opaqueness than similar-sized nonbanking firms. The evidence strongly indicates that large banks (traded on the NYSE) have very similar trading properties to their matched nonfinancial firms, but smaller banks (traded on NASDAQ) trade much less frequently despite having very similar spreads. We also find strong empirical support for the hypothesis that bank asset categories differ in their opacity. Analysis of IBES earnings forecasts indicates that banks assets are not opaque; they are simply boring. The implications for regulatory policy and future market microstructure research are discussed.

Abstract:
Private placement bonds have unique financial contracting in controlling borrower-lender agency conflicts due to direct monitoring and the relative ease of future renegotiation. Our data show that private placements are more likely to have restrictive covenants and are more likely to be issued by smaller and riskier borrowers. We find the determinants of bond yield spreads to be quite different between private placements and public issues, reflecting the different institutional arrangements between the two markets. Finally, in issuing bonds, we find that firms self-select the bond type to minimize both the financing costs and the transaction costs.

Corporate bonds

Abstract:
This paper uses the stochastic econometric cost frontier approach to investigate the cost efficiency of commercial banks in Hong Kong. On average, the X-efficiency of Hong Kong banks is found to be about 16 to 30 percent of observed total costs, which is comparable to the findings in the U.S. banking industry. X-efficiency is found to decline over time, indicating that banks in Hong Kong are now operating closer to the cost frontier than before. This is consistent with technological innovation that might have occurred in the Hong Kong banking industry. Furthermore, the average large bank in Hong Kong is found to be less efficient than the average small bank, particularly during the earlier time periods. Finally, X-efficiency is found to be related to certain bank characteristics. Specifically, X-efficiency is found to decline with bank size, deposit-to-asset ratio, loan-to-asset ratios, provision for loan loss, and loan growth, and to increase with off-balance sheet activities.

Abstract:
Under the strong-form of market discipline, publicly traded banks that have constantly available public market signals from their stock (and bond) prices would take less risk than non-publicly traded banks because counterparties, borrowers, and regulators could react to adverse public market signals against publicly traded banks. In comparing the credit risk, earnings risk, capitalization, and failure risk between publicly traded and non-publicly traded banks, the evidence in this paper rejects the strong-form of market discipline. In fact, the findings indicate that banking organizations tend to take more risk when they were publicly traded than when they were privately owned.

Market discipline, bank risk-taking

Abstract:
Per unit bank operating costs are found to vary significantly across Asian countries and over time. The strong correlation between per unit labor cost and physical capital cost suggests that there exist systematic differences in bank operating efficiency across countries. The declining operating costs between 1992 and 1997 is consistent with improving operating performance. The run-up in operating costs since 1997 coincided with the Asian financial crisis, suggesting that banks incurred additional costs to deal with problem loans while outputs declined simultaneously. Labor cost share is also found to decline significantly between 1997 and 1999, perhaps because banks were able to cut labor force faster than physical capital. Significant differences in labor cost share across countries suggest cross-country differences in bank production functions. The positive relation between labor cost share and wage rate indicates that banks use more labor due to higher labor force productivity, rather than labor being cheap.

Asian Banking, Bank Production, Bank Efficiency, Operating Performance, Asian Financial Crisis

Abstract:
A paper presented at the October 2003 conference "Beyond Pillar 3 in International Banking Regulation: Disclosure and Market Discipline of Financial Firms," cosponsored by the Federal Reserve Bank of New York and the Jerome A. Chazen Institute of International Business at Columbia Business School.

ownership structure, bank risk-taking, market discipline, agency theory

Abstract:
In 1986, a task force of banking academics organized and sponsored by the American Bankers Association convened to examine the banking industry and the efficacy of its regulatory system. The group was charged with reviewing the problems of ensuring the safety and soundness of the banking system and evaluating a number of policy options to improve the efficiency, performance, and safety of the system by changing the structure of the deposit insurance system and the bank regulatory and supervisory process. The results of the work of the task force were published by the MIT Press as the book, Perspectives on Safe and Sound Banking (Benston et al., 1986, the Report), which includes a set of principal options and recommendations. The purpose of this article is to assess the extent to which changes in public policy regarding depository institutions have been aligned with the recommendations of the Report. We find that, over the past 20 years, several legislative initiatives and changes in regulations and the bank supervisory process have been in keeping with the specific recommendations of the Report or with the analytic framework underlying the recommendations. At the same time, other recommendations in the Report have not been taken up and some proposals rejected in the Report have been put in place by legislative and regulatory initiatives. Overall, public policy and private sector initiatives appear to have contributed to safer and sounder banking and thrift sectors over the past 20 years. Consistent with what we see as the main theme of the Report, a likely contributing factor is the more appropriate alignment of incentive for risk-taking among larger depository institutions. Developments affecting risk-taking by depository institutions likely include higher capitalizations, greater risk exposure of private sector stakeholders more generally, improvements in risk management, and supervision and regulation that is focused on overall risk.

bank supervision

Abstract:
This paper estimates the amount of tightening in bank C&I loan rates during the financial crisis. After controlling for loan characteristics and bank fixed-effects, the average C&I loan spread was about 61 basis points higher in 2009:Q4 than an otherwise similar loan made under the average condition between 1997 and 2008. It was about 71 basis points higher when compared to 2008:Q4. The findings are robust with respect to the large bank and the medium bank subsamples. Small banks, however, did not seem to tighten their loan rates by as much as larger banks.

To delve deeper into how the tightening took place, cross sectional regressions of loan rate spreads on loan characteristics and bank financial condition are performed at each quarter to produce time-series of the estimated effects. The results indicate that during the financial crisis, banks lowered the discount on loan size, charged a higher price of risk, imposed surcharges on loans that were not made under commitment, and reduced the discount on collateralized loans (versus unsecured loans).

Banks’ own financial condition was found to have significant effects on loan price. During the financial crisis, the factor loading of delinquent loans in a bank’s own portfolio on loan spreads rose. Combined with rising loan delinquency, the portfolio effect alone led to substantially higher spreads. The amount of unused loan commitments is also found to have a significant effect on loan spreads, providing further evidence of the supply-side effects on loan pricing. Profitability, however, was not found to have a significant effect on spreads.

Financial Crisis, Bank Lending, Credit Tightening

Abstract:
This paper examines the effects of deposit rate deregulation in Hong Kong on the market value of banks. The release of the Consumer Council's Report in 1994 recommending interest rate deregulation is found to produce negative abnormal returns, while the announcement in 1995 terminating the deregulation program led to positive abnormal returns. Furthermore, news about resumption of interest rate deregulation in 1998 and the official announcement in 2000 to abolish the interest rate rules produced negative abnormal returns. The evidence suggests that Hong Kong banks earned rents from deposit rate restrictions and that relaxation of rate ceilings reduced these rents.

Deposit rate deregulation, Interest rate rules, Hong Kong banks

Abstract:
This paper is a theoretical and empirical investigation of the causes for the widespread bank failures of the 1920s. The purpose is to formalize and compare some of the extant arguments for failure, and to re-examine the particular historical period 1914-34 with the benefit of new evidence. A model is developed that is sufficiently general to capture the effects of extreme competition, heterogeneity among bankers, and macroeconomic surprises on bank solvency. Both entry into the banking industry and macroeconomic surprises have the potential to increase the failure rate. The model motivates an empirical study of annual statewide aggregate data on bank balance sheets, income statements, and failure rates. The empirics suggest that the high rates of bank failure observed in the 1920s are part of a boom- and-bust phenomenon. Specifically, we find that high statewide failure rates were preceded by large growth rates in the number of banks.

Abstract:
In this paper, the relation between bank risk-taking and operating efficiency is investigated in a simultaneous equations setting. While inefficiency is found to have positive effects on both credit risk and interest rate risk, it also has a positive effect on capitalization. The positive effect of inefficiency on risk-taking supports the moral hazard hypothesis that firms with poor performance are more vulnerable to risk-taking than high performance banking organizations. The positive effect of inefficiency on the level of capital is attributable to regulatory pressure on under performing firms to have more capital. Regulators prefer to discipline weak and inefficient firms by imposing higher capital requirement rather than through imposing portfolio restrictions, possibly because capital is more transparent and can be measured accurately. We also find that credit risk, interest rate risk, and capitalization seem to be jointly determined, reinforcing and compensating each other. At the same time, operating efficiency is affected by and related to bank risk-taking. Firms with more capital are found to operate more efficiently than firms with less capital, indicating that the level of capitalization is a good proxy for performance. We find mixed results regarding the effects of credit risk and interest rate risk on operating efficiency. Interestingly, a U-shaped relationship between inefficiency and loan growth rate is detected. Up to a certain point, operating efficiency improves at a decreasing rate as loan growth rate increases. This is consistent with the hypothesis that sustainable loan growth is accomplished by good management, which operates close to the efficient frontier. However, at excessive growth rate, operating efficiency decreases with loan growth. The finding supports the hypothesis that entrenched managers who pursue a growth objective to enhance their own wealth tend to operate inefficiently.