Internal Capital Markets and Bank Holding Company Efficiency

Abstract

Bank holding companies and its internal capital market have been widely discussed in recent financial literature and especially since the financial crisis which posed the question for regulatory intervention in the financial markets anew. From an economic point of view, the source of financing should not affect the overall firm value or future performance, but empirical evidence suggests that bank holding companies have clear preferences on double leveraging. In this paper, we show the direct effects of equity, debt and double leverage on the firms performance measured by their overall effciency. We show that efficiency is negatively affected by equity financing from parent to subsidiaries and this effect is even more pronounced for the case of double leverage. Our findings indicate that further emphasis from regulators is necessary in order to prevent inefficient fiancing via double leverage, which could be used to circumvent regulatory capital requirements.

Keywords: Double Leverage, Bank Holding Companies, Subsidiary, Data Envelopment Analysis

JEL Classification: G21, G32