The Impact of Taxation on Bank Leverage and Asset Risk

CentER Discussion Paper Series No. 2013-076

49 Pages Posted: 13 Dec 2013

See all articles by Balint Horvath

Balint Horvath

Tilburg University - Department of Economics

Date Written: December 11, 2013

Abstract

The tax-benefit of interest deductibility encourages debt financing, but regulatory and market constraints create dependency between bank leverage and risk. Using a large international sample of banks this paper estimates the short and long run effects of corporate income taxes (CIT) on bank capital structure and portfolio risk accounting for their simultaneous determination. A 10 percentage point increase in the statutory CIT rate is associated with an increase of 0.8-1.4 percentage points in bank leverage and a 2-7 percentage point reduction in the average risk-weight of assets. While the estimated overall effect of taxation on bank risk is modest, it induces significant portfolio reallocation toward less lending. These results suggest that any elimination of the tax-bias of debt may not bring the expected benefits for bank stability.

Keywords: Bank leverage; Bank regulation; Bank risk; Corporate taxation; Debt-bias

JEL Classification: G21; G28; G32; H25

Suggested Citation

Horvath, Balint, The Impact of Taxation on Bank Leverage and Asset Risk (December 11, 2013). CentER Discussion Paper Series No. 2013-076, Available at SSRN: https://ssrn.com/abstract=2366359 or http://dx.doi.org/10.2139/ssrn.2366359

Balint Horvath (Contact Author)

Tilburg University - Department of Economics ( email )

P.O. Box 90153
Tilburg, 5000 LE
Netherlands

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