Do the Governance Performance and the Sovereign Debt Influence Market Discipline? The EMU's Case under the New European Bail in Regime.

Abstract

The purpose of this paper is to examine the Market Discipline (MD) in the European Monetary Union's (EMUs) banking market. After the 2007's global crisis bursts, the EMU faces several economic and financial problems. Among those problems on the top are the Greek and the Cypriot issues. Several crucial European Union's decisions follow them, such as the "hair-cut" of the Greek debt and the "bail-in" in the Cypriot banking system. Few months later, Eurogroup decides that from now on the bail-in would be one of the main resolution measures. The poor governance performance and the increased sovereign risk are the main reasons for these problems, according to the EMU's officials. All these factors signal the beginning of a new banking era. Using consolidated data from 2004-11 we provide empirical evidence that in the EMU the MD is superficial, if we take into consideration only the banking variables. Moreover, the governance and the public debt should be included in the new MD regime, because the new era may demands a new MD approach.

Keywords: market discipline, deposit insurance, governance indicators, sovereign debt, European Union

JEL Classification: G21, G28, H63, H83, O52