Working Paper

The Political Origin of Home Bias: The Case of Europe

Abstract: We show that politics is at the root of the banks-sovereign nexus that exacerbated the Eurozone crisis. First, government-owned banks or banks with politicians in the board of directors display higher home bias in sovereign debt compared to privately-owned banks throughout the 2010-2013 period. Second, only government-owned banks increased the home bias during the sovereign crisis (moral suasion). We exploit the fact that equity injections (bail-outs) by domestic governments were not directly targeted to politically connected banks to show that, upon receiving such assistance, only government-owned banks purchase domestic debt. Moral suasion is stronger in countries under stress.

Keywords: Banks-sovereign nexus; Home bias; Government-owned banks; Banks' recapitalization; boards of directors;

JEL Classification: D72; G01; G11;

https://doi.org/10.17016/FEDS.2016.060

Bibliographic Information

Provider: Board of Governors of the Federal Reserve System (U.S.)

Part of Series: Finance and Economics Discussion Series

Publication Date: 2016-07-08

Number: 2016-060