Essays on financial stability and regulation in integrated markets

Abstract

Financial stability is an as valuable as fragile good. Given recent experiences, it seems understandable that a lot of resources are spent on financial supervision and regulation. However, as financial crisis history would tell, enhancing financial stability in a sustainable and long-lasting way is an ambitious objective. This holds the more so in financially integrated markets. This thesis investigates the implications of financiallyintegrated markets for financial stability and analyzes the effectiveness of oneimplemented regulatory instrument. In the first chapter, which is derived from joint work with Manuel Buchholz, we start from the observation that with the onset of the eurozone sovereign debt crisis, credit risk spreads have diverged. Nevertheless, our results reveal a high degree of co-movements in sovereign credit risk, especially for eurozone countries during thesovereign debt crisis. By investigating the causes behind this pattern of co-movements,we find strong evidence for both fundamentals and non-fundamentals based contagion.Similarities in economic fundamentals, cross-country linkages in banking and commonmarket sentiment play a significant role. In the second chapter, which is based on joint work with Claudia Buch and Björn Hilberg, we analyze the effects of the German bank levy implemented in 2011. The objective of the levy is to make banks internalize their contributions to systemic risk and generate rescue funds for future financial crises financed by the banking sector. We document that, first, the revenue raised through the bank levy has been small. Second, the bulk of the payments have been contributed by large commercial banks and head institutes of savings banks and credit unions. Third, only for those banks that are affected most by the levy, there is evidence for a decline in loans, higher lending rates, and lower deposit rates. In the third chapter, I assess the effect of the network structure in international interbank markets on banking stability. Cross-border linkages in the global banking network have increased to a large extent over recent decades. This raises the question which role these interconnections play for systemic stability and the transmission of shocks. My main finding is that countries which are linked through foreign borrowing or lending positions to more stable banking systems abroad are significantly affected by positive spillover effects. Hence, bilateral cross-border linkages between banking systems, and the network they span, affect financial stability.