Essays in Banking

The first essay (Chapter 2) examines why do banks respond to an increase in capital requirements despite possessing sufficient buffers? We show that the extent to which banks expect to acquire private information regarding their assets is a key determinant of their response to higher capital requirements. Following an increase in capital requirements induced by the FAS 166/167 reforms, the average treated bank reduces risk-weighted assets. Our novel finding is that opaque banks - those with low trading assets - drive the average effect, despite receiving milder treatment. We explain the findings in a model where opaque banks face an adverse selection discount when selling assets. In the second essay (Chapter 3), we use the global syndicated loan-level data from 2004-2016 and the staggered changes of creditor participation rights in seven countries to investigate how an increase in the creditor participation index affects the cost of credit in different democratic environments. We find evidence that stronger creditor participation rights reduce the cost of credit in the low democratic countries only. While in high democratic countries, the effect of an increased creditor participation index on spreads is statistically insignificant in most specifications. Our findings suggest that creditor participation rights are more valuable in low democratic countries. The final essay (Chapter 4) explores whether and how the use of interest rate derivatives can substitute for holding liquidity in banking in terms of bank risk management. I find that the banks that hold more interest rate derivatives for the hedging purposes have lower liquidity, suggesting that interest rate derivatives used for hedging are a substitute for liquidity. Derivatives held for the trading purposes are observed not to reduce banks’ liquidity positions. The results are robust to several additional tests. Overall, my study contributes to understanding the substitution effects of financial derivatives usage for hedging on liquidity holding regarding bank risk management.