Implicit Guarantees, Business Models and Banks’ Risk-Taking Through the Crisis: Global and European Perspectives

44 Pages Posted: 18 Jan 2014

See all articles by Apanard Penny Prabha

Apanard Penny Prabha

University of Illinois at Springfield

Clas Wihlborg

Chapman University; University West

Date Written: January 16, 2014

Abstract

The objectives of this paper are, first, to analyze whether banks’ risk-taking can be explained by factors contributing to implicit guarantees and by factors associated with banks’ business models. Second, it analyzes how risk-taking associated with these factors has changed from a period before the financial crisis (2004-2006), through the crisis (2007-2009), to a period after the crisis (2010-2012). Third, it analyzes whether risk-taking behavior of banks in Europe differs from banks’ risk-taking behavior in the US and globally. The empirical analysis covers 753 banks in a global sample of 45 countries including 86 European banks in 19 countries. Implicit insurance of banks’ creditors is captured both by an expected U-shaped relationship between explicit deposit insurance coverage and banks’ risk-taking, and by factors influencing the likelihood of bail-outs of individual banks. The main business model factors capture banks’ reliance on wholesale funding and their involvement in derivatives markets. A comparison of the results of the cross-section analysis for each sub-period shows that the sources of implicit guarantees have become more pervasive in Europe as well as globally after the crisis. Business models are strongly associated with risk during and after the crisis globally. In Europe, banks relying on wholesale funding as well as those with large derivatives positions are relatively risky. Policy implications of these results are discussed.

Keywords: Implicit Guarantee, Financial Crisis, Globally Systemically Important Banks, Too-Big-To-Fail, Interbank Liabilities, Subordinated Debt, Market Discipline, Regulation and Supervision

JEL Classification: G21, G28, F43

Suggested Citation

Prabha, Apanard Penny and Wihlborg, Clas, Implicit Guarantees, Business Models and Banks’ Risk-Taking Through the Crisis: Global and European Perspectives (January 16, 2014). Journal of Economics and Business, Forthcoming, Available at SSRN: https://ssrn.com/abstract=2380362

Apanard Penny Prabha

University of Illinois at Springfield ( email )

Springfield, IL 62703
United States

Clas Wihlborg (Contact Author)

Chapman University ( email )

333 N. Glassell
Orange, CA 92866
United States
+17147447630 (Phone)

University West ( email )

Trollhättan, 46186
Sweden

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