A Comprehensive View on Risk Reporting: Evidence from Supervisory Data
37 Pages Posted: 11 Aug 2017 Last revised: 18 Aug 2017
Date Written: August 9, 2017
We examine how banks that use internal ratings-based (IRB) approaches assign credit risk in the credit portfolio depending on their market risk exposure in the trading book. We find that banks with higher market risk exposure in the trading book report lower credit risk ratings to the same borrower at the same time, especially when the bank has more binding regulatory capital limits. We relate this behaviour to the discretion inherent to the models used under the IRB approach and find that it is more pronounced for non-transparent borrowers, when market discipline is low, and regulatory supervision is less stringent. These results suggest incentive spill-overs across different risk categories and imply that supervision requires a comprehensive view on risk dimensions.
Keywords: internal ratings-based regulation, credit risk, market risk, cross-subsidization, capital regulation, comprehensive risk assessment
JEL Classification: G01, G21, G28
Suggested Citation: Suggested Citation