Earnings Management and Investor Protection: An International Comparison

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Recent sovereign defaults in emerging countries are accompanied by interest rate spikes and deep recessions. This paper develops a small open economy model to study default risk and its interaction with output, consumption, and foreign debt. Default probabilities and interest rates depend on incentives for repayment. Default occurs in equilibrium because asset markets are incomplete. The model predicts that default incentives and interest rates are higher in recessions, as observed in the data. The reason is that in a recession, a risk averse borrower finds it more costly to repay non-contingent debt and is more likely to default. In a quantitative exercise the model matches various features of the business cycle in Argentina such as: high volatility of interest rates, higher volatility of consumption relative to output, a negative correlation of interest rates and output and a negative correlation of the trade balance and output. The model can also predict the recent default episode in Argentina.

Default risk and income fluctuations in emerging economies

Recent sovereign defaults in emerging countries are accompanied by interest rate spikes and deep recessions. This paper develops a small open economy model to study default risk and its interaction with output, consumption, and foreign debt. Default probabilities and interest rates depend on incentives for repayment. Default occurs in equilibrium because asset markets are incomplete. The model predicts that default incentives and interest rates are
higher in recessions, as observed in the data. The reason is that in a recession, a risk averse borrower finds it more costly to repay non-contingent debt and is more likely to default. In a quantitative exercise the model matches various features of the business cycle in Argentina
such as: high volatility of interest rates, higher volatility of consumption relative to output, a negative correlation of interest rates and output and a negative correlation of the trade balance and output. The model can also predict the recent default episode in Argentina.

/pdf/default-risk-and-income-fluctuations-in-emerging-economies-3uwetnmpe6.pdf

Default Risk and Income Fluctuations in Emerging Economies

Aggregate and sectoral comovement are central features of business cycles, so the ability to generate comovement is a natural litmus test for macroeconomic models. But it is a test that most models fail. We propose a unified model that generates aggregate and sectoral comovement in response to contemporaneous and news shocks about fundamentals. The fundamentals that we consider are aggregate and sectoral total factor productivity shocks as well as investment specific technical change. The model has three key elements: variable capital utilization, adjustment costs to investment, and preferences that allow us to parameterize the strength of short-run wealth effects on the labor supply. (JEL

/pdf/can-news-about-the-future-drive-the-business-cycle-b482sd6shw.pdf

Can news about the future drive the business cycle

Government support to banks through the provision of explicit or implicit guarantees can affect the willingness of banks to take on risk by reducing market discipline or by increasing charter value. We use an international sample of bank data and government support to banks for the periods 2003-2004 and 2009-2010. We find that more government support is associated with more risk-taking by banks, especially during the financial crisis (2009-10), even after controlling for several bank-specific and country-level factors. We use several measures of government support and bank risk-taking, and the results are robust to various possible misspecification issues. We also find that restricting banks’ range of activities ameliorates the moral hazard problem. We propose that policy measures to counteract this moral hazard problem should be geared towards strengthening market discipline in the banking sector.

/pdf/international-evidence-on-government-support-and-risk-taking-yj4rwc2i6x.pdf

International Evidence on Government Support and Risk-Taking in the Banking Sector

A partir des donnees sur les creances bancaires bilaterales tirees des statistiques bancaires territoriales de la Banque des Reglements Internationaux pour la periode allant de 1995 a 2014, nous analysons l’incidence de la politique monetaire sur les flux bancaires transfrontieres. Nous constatons que la politique monetaire d’un pays source est un determinant important des flux bancaires transfrontieres.

/pdf/cross-border-bank-flows-and-monetary-policy-implications-for-2ce2vhwudq.pdf

Cross-Border Bank Flows and Monetary Policy: Implications for Canada

Sovereign debt crises involve debt restructurings characterized by a mix of face value haircuts and maturity extensions. The prevalence of maturity extensions has been hard to reconcile with economic theory. We develop a model of endogenous debt restructuring that captures key facts of sovereign debt and restructuring episodes. While debt dilution pushes for negative maturity extensions, three factors are important in overcoming the effects of dilution and generating maturity extensions upon restructurings: income recovery after default, credit exclusion after restructuring, and regulatory costs of book value haircuts. We employ dynamic discrete choice methods that allow for smoother decision rules, rendering the problem tractable.

/pdf/sovereign-debt-restructurings-1t9xbgdtdq.pdf

Sovereign Debt Restructurings

Wholesale funding runs, global banks' supply of liquidity insurance, and corporate investment

We study the link between the cross-border funding activities of global banks and the international transmission of business cycles. First, using a dataset compiled by the Federal Reserve Board, we document three stylized facts about the operations of foreign banks in the United States: (i) The net borrowing of foreign branches from their parent banks is procyclical with the U.S. economy. (ii) The lending of foreign branches to U.S. firms is procyclical, and also more volatile than the lending of the domestically chartered banks. (iii) The lending of foreign subsidiaries to small U.S. firms is procyclical and more volatile than the corresponding lending by U.S. banks, indicating the presence of an extensive margin in foreign banks' lending to U.S. firms. Second, we build a two-country, dynamic stochastic general equilibrium model to explain these cyclical fluctuations in international bank lending and study their macroeconomic implications. In the model, each economy consists of: one representative household that provides bank deposits; two types of banks, "local" and "global", where the latter collects deposits from abroad and issues loans to foreign firms in addition to its domestic operations; a continuum of monopolistically-competitive firms that are heterogeneous in labor productivity, and that choose endogenously to borrow working capital from either the local or the global bank. Our model provides a framework to analyze the economic impact of proposed Basel III liquidity regulations.

Horacio Sapriza

Papers

International Evidence on Government Support and Risk-Taking in the Banking Sector

Cross-Border Bank Flows and Monetary Policy: Implications for Canada

Sovereign Debt Restructurings

Wholesale funding runs, global banks' supply of liquidity insurance, and corporate investment

International Banks and the Cross-Border Transmission of Business Cycles