The Ring-Fencing Bonus

Abstract

We study the impact of ring-fencing on risk-taking in the financial sector using short-term money markets. Ring-fencing is when the government restricts some activities to a subsidiary of the group whilst restricting intra-group transfers. Exploiting confidential data on sterling-denominated repo transactions, we document that banking groups subject to ring-fencing are perceived to be safer; repo investors lend to ring-fenced groups at lower rates. We show that ring-fenced groups reduce their risk-appetite and that the safety perception is amplified during times of market stress. Our paper suggests that structural reforms can create a ‘safe haven’ bank in the financial system.

Keywords: Ring-fencing, repo markets, risk-taking

JEL Classification: G12, G18, G21