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Working Paper
Embedded Supervision: How to Build Regulation into Blockchain Finance
The spread of distributed ledger technology (DLT) in finance could help to improve the efficiency and quality of supervision. This paper makes the case for embedded supervision, i.e., a regulatory framework that provides for compliance in tokenized markets to be automatically monitored by reading the market?s ledger, thus reducing the need for firms to actively collect, verify and deliver data. After sketching out a design for such schemes, the paper explores the conditions under which distributed ledger data might be used to monitor compliance. To this end, a decentralized market is modelled ...
Working Paper
The Effects of Liquidity Regulation on Bank Demand in Monetary Policy Operations
We estimate the effects of the liquidity coverage ratio (LCR), a liquidity requirement for banks, on the tenders that banks submit in Term Deposit Facility operations, a Federal Reserve tool created to manage the quantity of bank reserves. We identify these effects using variation in LCR requirements across banks and a change over time that allowed term deposits to count toward the LCR. Banks subject to the LCR submit tenders more often and submit larger tenders than exempt banks when term deposits qualify for the LCR. These results suggest that liquidity regulation affects bank demand in ...
Working Paper
Derivatives Pricing under Bilateral Counterparty Risk
We consider risk-neutral valuation of a contingent claim under bilateral counterparty risk in a reduced-form setting similar to that of Duffie and Huang [1996] and Duffie and Singleton [1999]. The probabilistic valuation formulas derived under this framework cannot be usually used for practical pricing due to their recursive path-dependencies. Instead, finite-difference methods are used to solve the quasi-linear partial differential equations that equivalently represent the claim value function. By imposing restrictions on the dynamics of the risk-free rate and the stochastic intensities of ...
Journal Article
The Evolution of US Bank Capital around the Implementation of Basel III
Following the Global Financial Crisis of 2007–2008, the capital standards for banks operating in the United States were tightened as US banking regulators implemented the Basel III framework. This Economic Commentary briefly presents the key elements of Basel III relevant to bank capital and analyzes the timing of the evolution of regulatory capital ratios for US bank holding companies during that time. It shows that, on average, banks’ capital ratios increased notably between 2009 and 2012, plateauing before the new rules came into force. While larger and better-capitalized banks ...
Working Paper
Liquidity Regulation and Financial Intermediaries
We document several effects of the Liquidity Coverage Ratio (LCR) rule on dealers' financing and intermediation of securities. For identification, we exploit the fact that the US implementation is more stringent than that in foreign jurisdictions. In line with LCR incentives, US dealers reduce their reliance on repos as a way to finance inventories of high-quality assets and increase the maturity of lower-quality repos relative to foreign dealers; additionally, US dealers cut back on trades that downgrade their own collateral. Dealers are nevertheless still providing significant maturity ...
Working Paper
How do Capital Requirements Affect Loan Rates? Evidence from High Volatility Commercial Real Estate
We study how bank loan rates responded to a 50% increase in capital requirements for a subcategory of construction lending, High Volatility Commercial Real Estate (HVCRE). To identify this effect, we exploit variation in the loan terms determining whether a loan is classified as HVCRE and the time that a treated loan would be subject to the increased capital requirements. We estimate that the HVCRE rule increases loan rates by about 40 basis points for HVCRE loans, indicating that a one percentage point increase in required capital raises loan rates by about 9.5 basis points.
Working Paper
Are Basel's Capital Surcharges for Global Systemically Important Banks Too Small?
The Basel Committee promulgates bank regulatory standards that many major economies enact to a significant extent. One element of the Basel III capital standards is a system of capital surcharges for global systemically important banks (G-SIBs). If the purpose of the surcharges is to ensure the survival of G-SIBs through serious crises (like the 2007-09 financial crisis) without extraordinary public assistance, our analysis suggests that current surcharges are too low because of three shortcomings: (1) the Basel system underestimates the probability that a G-SIB can fail, (2) the Basel system ...
Working Paper
Stochastic Intensity Models of Wrong Way Risk: Wrong Way CVA Need Not Exceed Independent CVA
Wrong way risk can be incorporated in Credit Value Adjustment (CVA) calculations in a reduced form model. Hull and White [2012] introduced a CVA model that captures wrong way risk by expressing the stochastic intensity of a counterparty's default time in terms of the financial institution's credit exposure to the counterparty. We consider a class of reduced form CVA models that includes the formulation of Hull and White and show that wrong way CVA need not exceed independent CVA. This result is based on some general properties of the model calibration scheme and a formula that we derive for ...
Speech
U.S. macroeconomic and regulatory developments and emerging market economies
Remarks at the International Financial Conference Annual Meeting, Cartagena, Colombia.
Working Paper
The Rise of Shadow Banking : Evidence from Capital Regulation
We investigate the connections between bank capital regulation and the prevalence of lightly regulated nonbanks (shadow banks) in the U.S. corporate loan market. For identification, we exploit a supervisory credit register of syndicated loans, loan-time fixed-effects, and shocks to capital requirements arising from surprise features of the U.S. implementation of Basel III. We find that less-capitalized banks reduce loan retention and nonbanks step in, particularly among loans with higher capital requirements and at times when capital is scarce. This reallocation has important spillovers: ...