Analyzes The Journal

Transmission of Bank Liquidity Shocks in Loan and Deposit Markets: The Role of Interbank Borrowing and Market Monitoring

· Theme : Bank Liquidity

· Title :

Transmission of Bank Liquidity Shocks in Loan and Deposit Markets: The Role of Interbank Borrowing and Market Monitoring

· Author :

1. Franklin Allen

The Wharton School of the University of Pennsylvania

2. Aneta Hryckiewicz

University of Frankfurt and Kozminski University

3. Oskar Kowalewski

Warsaw School of Economics (SGH)

4. Gunseli Tumer-Alkan*

VU University Amsterdam

· Year Published: March, 2011

INTRODUCTION

In the last two decades, financial integration resulted in an increase of foreign ownership in the banking sectors across large number of countries. A long line of research supports this development by documenting the stabilizing role of foreign banks in developing countries (Demirguc-Kunt and Enrica, 1997). Foreign bank entry is associated with credit growth and 2 reduced likelihood of crises.1 Moreover, empirical studies show that foreign bank lending

remained unaffected during crises in host countries, partly due to the support received from parent banks (Martinez Peria et al., 2002 and de Haas and van Lelyveld, 2006, 2010). While adverse affects of host country crises are mitigated by foreign banks, home country economic cycles may influence the host country as documented by Peek and Rosengren (1997, 2000).

PROBLEM

We examine the international transmission of bank liquidity shocks from multinational bankholding companies to their subsidiaries

PURPOSE

Our paper is related to a number of studies on the impact of the recent crisis on foreign banks in the host countries. It builds upon empirical work on internal capital markets that makes use of subsidiary and parent bank-level variation to identify the determinants of foreign bank lending

METHODOLOGY

Using this methodology we select the 51 largest banks from twenty developed countries and all of their subsidiaries in the world2. We exclude, however, those subsidiaries that were located in the same country as the parent bank since we are mainly interested in identifying the international transmission of financial shocks.

· Dependent Variable : Parent Bank and Location specific factors

· Independent Variable : Credit Supply of its foreign affiliate and country level controls

· Population in this study: The sample used in this study consists of multinational banks and their foreign subsidiaries. We select the multinational banks using a 2008 ranking published by the Banker magazine, where we concentrate only on the first 150 banks. We exclude those banks that do not have any foreign subsidiaries, or when we are not able to retrieve data for them.

RESULT AND ANALYSIS

Our findings are consistent with the studies that document that parent bank fragility negatively affects lending by subsidiaries. We further find that reduction in foreign bank lending is stronger for those that are dependent on the interbank market. Moreover, foreign bank lending is determined by different factors in emerging markets and in developed countries. Finally, we show that especially during the recent crisis, liquidity needs determine the change in deposits in developing economies whereas in developed countries, market discipline plays a relatively more important role.

In general, most specifications indicate the existence of market discipline and certain subsidiary and parent fundamentals influence the change in time deposits. We find that the depositors react to a deterioration of bank performance and punish their institutions by withdrawing their savings. In the first group of results, we find some evidence for an inverse effect of loan loss provisions on time deposit growth. We also find that subsidiaries with more profitable parents can increase their time deposits during the recent crisis, a result not supported by the random effects estimator.

CONCLUSION

Our findings are in line with the studies on multinational banks’ internal capital markets (de Haas and van Lelyveld, 2010). Using a sample of 51 multinational banks and their foreign subsidiaries, we find evidence that parent bank fragility negatively affects lending by subsidiaries

Finally, we examine the existence of the market discipline in relation to the transmission of financial shocks. We find that the depositors react to a deterioration of bank performance and punish their institutions by withdrawing money or by asking for higher interest rates. Higher interest rates may also be a part of the foreign bank policy, as they may compete for deposits in the host market to substitute for the reduced availability of funds from the parent bank, or the interbank markets.

Analyzer : Samuel David Lee