Research Exchange: January 2022

Featured BPI Research

Do Bank Mergers Create “Banking Deserts”? The Evidence Indicates No

In “Do Bank Mergers Create “Banking Deserts”? The Evidence Indicates No,” BPI’s Senior Vice President of Research, Paul Calem, examines whether bank mergers lead to an expansion of “banking deserts” and harm financial inclusion. Based on examination of various data sources, he finds that branch closings in recent years are not disproportionately associated with mergers and have not caused consumers to be unbanked. For example, there are many more bank branches compared to four decades ago, despite the many mergers and acquisitions that took place since 1980. The author demonstrates that there are other, more important reasons for branch closures, such as an increase in digital banking compared to in-person banking and shifts in local population.  Read More ⇨

The Fed is Stuck on the Floor: Here’s How It Can Get Up

In, “The Fed is Stuck on the Floor: Here’s How it Can Get Up,” BPI’s Chief Economist, Bill Nelson, explains that the Federal Reserve’s abundant-reserve monetary policy implementation framework requires the Fed to not only be massive, but also to keep growing and borrowing from an ever-widening set of counterparties. In particular, the Fed has stated that it wishes to keep reserve balances roughly $350 billion above the level demanded by banks in normal circumstances, so that it does not need to add more reserves in reaction to a transitory negative shock to reserve supply.  However, Nelson argues, banks’ normal demand for reserve balances grows to meet whatever amount is normally supplied.  As a result, the Fed must continuously expand supply to maintain a buffer over expanding demand.  Because borrowing from the same set of counterparties becomes increasingly expensive as the amount borrowed increases, the Fed must expand the set of counterparties from whom it borrows, first banks, then money market mutual funds, perhaps in the future corporate treasurers.  The note concludes with a pathway the Fed could follow to return to a more modestly sized portfolio. Read More ⇨

Consistency in Risk Weights for Corporate Exposures Under the Standardized Approach

The U.S. will be issuing a proposal to implement some of the recent changes agreed by international regulators in Basel. One of the objectives of those revisions is to increase the risk sensitivity of the standardized approach for credit risk. However, the new standardized approach only allows a bank to categorize a corporate exposure as investment grade if the entity (or its parent company) has securities outstanding on a recognized securities exchange. The securities listing requirement will prevent most investment-grade corporates from receiving a lower risk weight. The note assesses the relevance and impact of the securities-listing requirement and the assigned risk weighting, using data on estimates of corporate entities’ probability of default from 12 large banks and 12,342 unique corporate entities. The results indicate that investment-grade rating assignments to the same entity are generally consistent across banks. Therefore, the requirement that investment-grade exposures need to have securities listed on a recognized exchange appears to be an unnecessary bias against smaller businesses.  Read More ⇨

A Major Limit on the Fed’s Crisis Toolkit: Shame

In “A Major Limit on the Fed’s Crisis Toolkit: Shame” BPI’s Chief Economist, Bill Nelson, and Senior Fellow, Pat Parkinson, explain how the Federal Reserve’s stigmatization of Federal Reserve lending facilities poses a threat to financial stability. Nelson and Parkinson highlight that the discount window and other Federal Reserve lending facilities can in principle eliminate the risk and societal cost of cyclical credit contractions by allowing solvent banks and nonbank financial institutions to meet their needs for cash by borrowing against their assets. Likewise, Nelson and Parkinson argue that the effectiveness of these lending facilities has been significantly impaired by the Federal Reserve’s stigmatization of use by banks and other potential users. To the extent that the stigma renders these facilities unused and ineffective, liquidity shocks can pose a significant threat to the financial system and to the economy. The blog post concludes by identifying the sources of the stigma and a pathway the Fed could follow to diminish the stigma. Read More ⇨

Are Loans to Carbon Intensive Firms the New Subprime?

This blog post analyzes some of the macroeconomic outcomes included in the Bank of England’s disorderly transition scenario and describes some of the channels that could lead to such outcomes. The post’s main takeaway is that it is highly unlikely that sudden changes in environmental policies would result in a 6-percentage-point increase in the unemployment rate over the course of two years. Although an abrupt increase in carbon prices could depress economic growth, increased investment directed toward green projects and government spending of revenues generated by higher carbon prices will boost aggregate demand and offset some of the negative effects. The post concludes that more research is needed to evaluate how disorderly transition risk, such as abrupt increases in a carbon tax, affects the world economy.  Read More ⇨

Chart of the Month

The chart above examines how market concentration (as measured by HHIs) in the local geographic markets that the FRB has most recently defined evolved between 1998 and 2021. The purple line shows weighted average HHI across local markets by year, measured along the left axis. The yellow line shows the percentage of markets that would be considered highly concentrated based on current Department of Justice merger guidelines (an HHI exceeding 1,800 points), measured along the right axis. Each market is weighted by its total deposits for these calculations. The chart indicates that the merger guidelines have been effective at maintaining local market competitiveness.
The chart above shows plots the CR4 and CR20 concentration measures in the aggregate U.S. banking sector between 2002 and 2017. The share of sales of the top four firms increased from 24 percent to just over 26 percent between 2002 and 2007 but has fallen since then to represent only 20 percent as of 2017. Similarly, the top 20 firms show a declining trend in concentration from the 2007 peak of 48 percent and to 40 percent of total industry sales in 2017. The chart indicates that under both CR4 and CR20 definitions, concentration in the U.S. banking industry at the national level has fallen over the last decade.

Selected Outside Research

Liquidity, Liquidity Everywhere, Not a Drop to Use – Why Flooding Banks with Central Bank Reserves May Not Expand Liquidity

Central banks’ balance sheets have experienced a significant expansion since the Global Financial Crisis, a priori increasing the overall liquidity in the banking system. Despite this, short-term markets have faced episodes of disruption apparently driven by a lack of liquidity under stress. In this NBER working paper, Acharya and Rajan present a model where banks finance central bank expansion through the issuance of short-term liabilities that are excessive from an optimal social standpoint. In addition, regulation and market discipline can lead to reserve hoarding by healthy banks under stress. Consequently, the authors conclude that central bank balance sheet growth may even exacerbate liquidity demands in bad times potentially attenuating any positive effects on the real economy. Read More ⇨

The Repo Market Under Basel III

In this paper, the Bank of England offers a comprehensive review of the effects of Basel III leverage, capital, and liquidity regulation on market pricing and dynamics in all collateral segments of the U.K. repo market, and the attendant implications for financial stability.  Using a proprietary and confidential dataset, the study finds that the leverage ratio induces participants to charge higher interest margins on reverse repo trades that are non-nettable. In addition, it documents changes to market structure, as banks substitute long-term repo borrowing from dealers to investment funds which can be more fragile under stress. Lastly, the analysis indicates that banks constrained by more than one regulatory ratio exhibit a comparatively large reduction in their repo market activity. Read More ⇨

The Low-Carbon Transition, Climate Commitments and Firm Credit Risk

The impact of climate change on firm credit risk depends heavily on the transition path to a low-carbon economy. In an ECB working paper, Carbone et al. develop a dataset on firms’ greenhouse gas emissions over time as a measure of their climate-related transition risk alongside their mitigation strategies. High emissions are associated with higher credit risk as measured by credit ratings and market-implied distance to default. Transparency around disclosure of targets aimed to reduce emissions is associated with lower credit risk, with a stranger effect taking place for more ambitious targets. The results also show differences between European and U.S. firms which the authors claim can be related to differential expectations around climate policy. Read More ⇨

Nonbank Lending During Financial Crises

The increasing relevance of nonbank lenders in providing credit to firms raises the question of how this could impact financial stability during a financial crisis. This paper examines cross-country data on the syndicated loan market and finds that nonbanks contract their lending by over 50 percent more than banks during periods of stress. About half of this decline is tied to nonbanks’ lending to riskier borrowers, while the rest is explained by their riskier funding structure, which can be hard to roll over in hard times. Read More ⇨

A Macroprudential Perspective on the Regulatory Boundaries of U.S. Financial Assets

Using data from U.S. financial accounts, this paper provides measures of regulatory perimeter –the boundary between the part of the financial sector that is subject to prudential regulatory oversight and that which is not—and the boundaries between different regulatory agencies and the financial institutions they supervise. The paper describes how these boundaries have evolved and how they potentially become blurred because of regulatory overlap. This quantitative approach aims to help macroprudential regulators in assessing financial stability risks across the regulated and unregulated financial sector over the credit cycle. Read More ⇨

Interest Received by Banks During the Financial Crisis: LIBOR vs. Hypothetical SOFR Loans

The phasing out of LIBOR raises the question of how banks would fare under potential substitute rates. This paper demonstrates how the credit sensitivity inherent in LIBOR helped lenders during the financial crisis. By generating a counterfactual scenario where loans are indexed to a hypothetical SOFR rate, the authors estimate that the additional interest from LIBOR yielded between 1 to 2 percent of the notional amount of outstanding loans, corresponding to as much as $30 billion. Furthermore, the effect depends on the type of SOFR rate used. A compounded SOFR rate would have more adversely affected lenders compared to a term SOFR, since emergency interest rate cuts during the crisis would have affected loan rates faster through the compounding adjustment of lower rates. Read More ⇨

The Fed’s Latest Tool: A Standing Repo Facility

The Federal Reserve Bank of New York has published a blog post to help explain the functioning of the domestic standing repo facility (SRF) and how it can help support the implementation of monetary policy under a floor system. It argues that the SRF will help the Federal Open Market Committee control short-term interest rates, by limiting the occasional pressures on the effective federal funds rate, particularly during periods of stress in money markets. While re-affirming the Fed’s stance on keeping an ample reserve framework and on primarily using the interest on reserve balances (IORB) rate and the overnight reverse repurchase agreement facility (ON RRP) as the primary tools for intervention, the post expresses the need for the SRF as a backstop. It also highlights potential costs, noting that the SRF must be monitored, as counterparties could be encouraged to take on more liquidity risk. Read More ⇨

It’s Time to Regulate Stablecoins as Deposits and Require Their Issuers to Be FDIC-Insured Banks

The President’s Working Group on Financial Markets (PWG) report on stablecoins determined that they pose a significant amount of risk to investors with the potential of causing severe financial stability concerns. While at present, stablecoins are mostly used to make trades in cryptocurrency markets, they have the potential to become “private money” used in a variety of transactions. This paper supports three regulatory approaches to the growing use of stablecoins: i) regulate stablecoins as securities to protect investors; ii) designate stablecoins as deposits increasing oversight on issuers and distributors; iii) adopt legislation mandating that all issuers and distributors must be FDIC-insured. The authors argue that following these steps would avoid technology firms using stablecoins to develop a new “shadow banking” system with large systemic consequences. Read More ⇨


Investment in regulation-driven technology or RegTech among financial institutions reached $10 billion in 2019 and is expected to grow by 35 percent a year (Juniper 2021). Importantly, institutions invest in RegTech not only for compliance purposes but also as an important part of their overall consumer strategy. In this paper, the authors examine the investment response of adding a new internal control requirement to U.S. broker-dealers, and document how this new regulation led to RegTech expenditure as well as to investment in complementary information technology, including in such areas as data-management and customer-relationship development. As a result, broker-dealers experienced a decline in complaints, especially those that can be easily detected by technology. Read More ⇨

Allocation and Employment Effect of the Paycheck Protection Program

The Paycheck Protection Program (PPP) issued close to $800 billion in loans and grants to support small businesses during COVID-19. This paper explores the overall effect on employment, focusing on the challenges of obtaining reliable estimates. The paper first reviews previous studies on the topic, noting how estimates range from 1.5 million to 18.6 million jobs saved by the program. The paper describes the limitations of these studies, including that differential timing of PPP disbursements across banks and regions are biasing the estimates, and discusses how the conflicting results may be reconciled. Read More ⇨

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The views expressed do not necessarily reflect those of the Bank Policy Institute’s member banks, and are not intended to be, and should not be construed as, legal advice of any kind.