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TOO MANY TO FAIL? Evidence of Regulatory Reluctance in Bank Failures when the Banking Sector is Weak Craig O. Brown Serdar Dinç [email protected] [email protected] October 2006 Regulation in Banking Banking is one of the most regulated sectors (Berger et al. (1995), Barth et al. (2006)) Entry, e.g., restrictions on branching, scope, licensing Operations, e.g., capital requirements Exit, e.g., license revocations, government takeovers Banks can defer failure by issuing new deposits until regulators take action Brown & Dinç 2 Regulatory Reluctance & Intervention in Failing Banking Regulators seem reluctant to intervene in failing banks if the whole sector is also weak. Theory: Mitchell (2001), Acharya & Yorulmazer (JFI, forth.) S&L Crisis in U.S.: Kane (1989), Kroszner & Strahan (JF, 1996) Banking Crisis in Japan: Hoshi & Kashyap (2001) Are these two cases exceptions?? Brown & Dinç 3 Bank Failures in Emerging Markets Crisis Literature (country-level): Economic, institutional, and regulatory framework that makes crises more likely e.g., Barth et al. (2006), Beck et al. (JBF 2006), Caprio and Klingebiel (2002), Claessens et al. (2005), Demirguc-Kunt and Detragiache (1998, JME 2002) Bank Failures in Asian Crisis (bank-level, 4 East Asian Countries): Political connections, market’s ability to predict failures Bongini et al. (JFSR 2001), Bongini et al. (JBF 2002) Politics of Bank Failures (bank-level, 21 major emerging markets): Politicians wait until after the elections before closing/taking over a failing bank. Brown & Dinç (QJE 2005) Brown & Dinç 4 Focus of the Paper Are the regulations about failing banks implemented regardless of the health of other banks? Or, Are the regulators reluctant to close/take over failing banking if the whole sector is weak? Null Hypothesis: Government takeover or closing of a failing bank does not depend on the health of other banks (once the macroeconomic factors are controlled for) Brown & Dinç 5 Main Result: Preview Government is less likely to take over or close failing banks if other banks are also weak!! This is robust to… Bank-specific Factors; Macroeconomic Factors; IMF Programs; Election Concerns Brown & Dinç 6 Sample Construction (Same sample as in Brown & Dinç (QJE 2005)) Beginning sample: Largest 10 banks in 1993 in each of 21 major countries All the emerging countries for which The Economist provides statistics, except China, and Egypt: Argentina, Brazil, Chile, Colombia, Czech, Hungary, India, Indonesia, Israel, Malaysia, Mexico, Peru, Poland, Russia, Singapore, S. Africa, S. Korea, Taiwan, Thailand, Turkey, Venezuela Main Data Sources • Bank Failures: Factiva • Ownership, Mergers: Bankscope, Factiva, Bankers’ Almanac • Balance Sheet: Bankscope Brown & Dinç 7 Banks Failures by Country (Table 1-first half) Always Government-owned COUNTRY Private Banks Total Number of Banks (1993) Total Number License revoked or liquidated Total Number Taken over by the government License revoked or liquidated 10 10 10 10 10 10 60 5 2 -2 3 2 14 ------0 5 8 10 8 7 8 46 5 --5 -4 14 ------0 10 10 10 10 10 10 10 70 2 1 1 2 2 1 1 10 -------0 8 9 9 8 8 9 9 60 -3 -1 3 1 4 12 -------0 Southeast Asia Indonesia Malaysia Singapore South Korea Taiwan Thailand Total (Southeast Asia) Latin America Argentina Brazil Chile Colombia Mexico Peru Venezuela Total (Latin America) Brown & Dinç 8 Banks Failures by Country (Table 1 - cont.) Private Banks Always Government-owned COUNTRY Rest of the World Czech Republic Hungary India Israel Poland Russia South Africa Turkey Total (Rest of the World) Total (WORLD) Total Number of Banks (1993) Total Number License revoked Total Number 10 10 10 10 10 10 10 10 -1 9 2 3 2 1 4 --------- 10 9 1 8 7 8 9 6 4 1 ---2 -1 2 ----4 --- 80 22 0 58 8 6 210 46 0 164 34 6 Brown & Dinç License Taken over by the government revoked 9 Bank Failures Around the World Bank Failures are very common. 24% of all private banks failed. Bank Failures are evenly distributed across the continents. Take-over of failing banks by the Government is very common. 85% of all failures. Brown & Dinç 10 Sample Statistics (Table 2) Variable Name Assets (in $B) Assets / GDP Total Loans/ Assets Total Deposits / Assets Capital Ratio Operating Income / Assets Mean sd. N Mean sd. N Mean sd. N Mean sd. N Mean sd. N Mean sd. N Failed Banks 10.048 11.708 140 0.056** 0.069 691 0.588 0.205 138 0.766 0.149 138 0.044*** 0.163 140 -0.019** 0.196 137 Brown & Dinç Other Banks 10.533 13.239 691 0.070 0.092 140 0.574 0.155 684 0.752 0.153 683 0.092 0.054 691 0.015 0.024 684 All Banks 10.451 12.988 831 0.067 0.089 831 0.577 0.165 822 0.754 0.152 821 0.084 0.085 831 0.010 0.084 821 11 Econometric Methodology Cox Proportional Hazard analysis for the time until bank failure h(t ) h0 (t ) exp βx it 1 * z i ,t 1 , t t i ,..., Ti xi: Bank specific (and macroeconomic) variables z-i: A measure of health for other banks in the same country. (Typically, the weighted average across all other banks for a bank specific variable included in xi) Null hypothesis g=0 (a failing bank is closed regardless of other banks) Regulatory reluctance g>0 (the healthier other banks are, the more likely a bank is closed by the regulators) (Errors are clustered at the country level) Brown & Dinç 12 Regulatory Reluctance to Fail Banks if Other Banks are also Weak (Table 3) Total Assets / GDP Capital Ratio Income -0.308 -0.345 (0.266) (0.291) -0.121*** (0.022) -0.114*** (0.023) -0.430 (0.301) -0.117*** (0.031) -0.006 (0.037) Capital Ratio_OtherBanks -0.357 (0.314) -0.162*** (0.041) -0.043 (0.041) 0.261* (0.147) Income_OtherBanks Bank-years p-value of W 881 0.000 854 0.000 Brown & Dinç 854 0.000 854 0.000 -0.428 (0.300) -0.168*** (0.040) -0.065 (0.045) 0.357** (0.170) 854 0.000 13 Regulatory Reluctance: Robustness? Government is less likely to take over or close failing banks if other banks are also weak!! Is this effect robust to… Macroeconomic Factors? IMF Programs? Election Concerns? Additional Bank-specific Factors? Brown & Dinç 14 Regulatory Reluctance: Robustness to Macroeconomics (Table 4A) Total Assets / GDP -0.314 (0.246) Capital Ratio -0.149*** (0.043) Income -0.032 (0.038) Capital Ratio_OtherBanks 0.276** (0.132) GDP Growth -0.072** (0.031) GDP per capita -0.257 (0.280) -0.160*** (0.042) -0.034 (0.042) 0.303** (0.137) -0.366 (0.324) -0.161*** (0.040) -0.041 (0.042) 0.253* (0.151) -0.329 (0.311) -0.166*** (0.043) -0.041 (0.042) 0.317* (0.169) -0.374 (0.313) Currency depreciation 0.042 (0.073) Inflation rate 1.147 (1.327) Real Interest rate Bank-years p-value of W -0.387 (0.331) -0.162*** (0.040) -0.037 (0.046) 0.249* (0.153) 854 0.000 854 0.000 844 0.000 Brown & Dinç 854 0.000 -0.000 (0.000) 805 0.000 15 Regulatory Reluctance: Robustness to Macroeconomics (Table 4B) Total Assets / GDP Capital Ratio Income Income_OtherBanks GDP Growth -0.391* (0.235) -0.155*** (0.042) -0.053 (0.040) 0.381** (0.155) -0.079*** (0.030) GDP per capita -0.333 (0.274) -0.168*** (0.041) -0.058 (0.045) 0.419*** (0.157) -0.437 (0.306) -0.167*** (0.040) -0.063 (0.045) 0.349** (0.174) -0.412 (0.301) -0.174*** (0.042) -0.068 (0.045) 0.449** (0.192) -0.437 (0.297) Currency depreciation 0.046 (0.069) Inflation rate 1.531* (0.916) Real Interest rate Bank-years p-value of W -0.451 (0.315) -0.167*** (0.039) -0.059 (0.049) 0.343* (0.177) 854 0.000 854 0.000 844 0.000 Brown & Dinç 854 0.000 -0.000 (0.000) 805 0.000 16 Regulatory Reluctance: Elections & IMF Lending (Table 5) Total Assets / GDP -0.401 (0.297) Capital Ratio -0.172*** (0.037) Income -0.064 (0.043) Capital Ratio_OtherBanks 0.287** (0.116) Income_OtherBanks BeforeElection -1.575*** (0.594) IMF loans / GDP Bank-years p-value of W -0.354 (0.317) -0.154*** (0.040) -0.033 (0.040) 0.418** (0.169) 854 0.000 0.415 (0.297) 854 0.000 Brown & Dinç -0.474 (0.297) -0.169*** (0.037) -0.077* (0.044) -0.495 (0.341) -0.155*** (0.039) -0.064 (0.042) 0.329*** 0.554*** (0.127) (0.178) -1.467** (0.575) 0.472* (0.282) 854 854 0.000 0.000 17 Regulatory Reluctance: Additional BankLevel Controls (Table 6) Total Assets / GDP Capital Ratio Income -0.439 (0.328) -0.118*** (0.037) -0.005 (0.041) Capital Ratio _OtherBanks -0.338 (0.348) -0.161*** (0.042) -0.045 (0.046) 0.115 (1.153) 854 0.000 -0.228 (0.248) -0.235*** (0.050) -0.009 (0.061) 0.349** (0.152) (0.137) -0.218 (0.911) 0.373* (0.191) -0.567 (0.969) Lending Margin Bank-years W -0.328 (0.234) -0.164*** (0.056) 0.034 (0.068) 0.263* Income_OtherBanks Loans -0.380 (0.334) -0.166*** (0.040) -0.072 (0.052) 854 0.000 854 0.000 Brown & Dinç -0.321 (0.238) -0.248*** (0.049) -0.040 (0.066) 0.492*** (0.162) -0.456 (0.752) 842 0.000 -0.218 (0.658) 842 0.000 -0.143 (0.580) 842 0.000 18 Main Result: Summary Government is less likely to take over or close failing banks if other banks are also weak!! This is robust to… Bank-specific Factors; Macroeconomic Factors; IMF Programs; Election Concerns Brown & Dinç 19