From a Banking Union to a Financial Union
Session 2
Franklin Allen and Xian Gu
Investment Finance and the Recovery
Banco de Portugal/European Investment Bank
Lisbon
5 September 2014
Introduction
• Banking Union is 2/3 complete
• What about union in other parts of the financial
system? Is it a good idea?
• We start by contrasting the banking structures in
some EU countries with the US and Japan and then
move on to other parts of the financial system
• Finally , we discuss the advantages and disadvantages
of relying on banks, other institutions and markets in
the financial system
2
Data and Other Issues
There are many data issues when comparing banks and other financial
institutions in different countries including:
•
•
•
•
•
Accounting differences
Mix of organizational forms (commercial vs. cooperative vs. public)
Structural differences in business models
Differences in the nature of assets and liabilities
Legal issues
We use OECD data where they have tried as best as they could to make
the data comparable and focus on France, Germany, Portugal, Japan
and the US
3
Comparison of Bank Assets/GDP
400.00
350.00
300.00
US
250.00
Japan
France
200.00
Germany
150.00
Portugal (All commercial
banks)
100.00
50.00
0.00
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
4
France - Assets
100%
90%
France
80%
70%
Other assets
60%
Securities
50%
40%
Loans
30%
Interbank deposits
20%
Cash and balance with Central bank
10%
0%
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
5
France - Liabilities
100%
France
90%
80%
70%
Other liabilities
60%
Bonds
50%
Customer deposits
40%
Interbank deposits
30%
20%
Borrowing from Central bank
10%
0%
2000
Capital and reserves
2001
2002
2003
2004
2005
2006
2007
2008
2009
6
Germany - Assets
100%
90%
Germany
80%
70%
Other assets
60%
Securities
50%
40%
Loans
30%
Interbank deposits
20%
Cash and balance with Central bank
10%
0%
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
7
Germany - Liabilities
100%
Germany
90%
80%
Other liabilities
70%
60%
Bonds
50%
Customer deposits
40%
Interbank deposits
30%
20%
Borrowing from Central bank
10%
Capital and reserves
0%
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
8
Portugal - Assets
100%
Portugal (All commercial
banks)
90%
80%
70%
Other assets
60%
Securities
50%
40%
Loans
30%
Interbank deposits
20%
10%
0%
2000
Cash and balance with Central
bank
2001
2002
2003
2004
2005
2006
2007
2008
2009
9
Portugal - Liabilities
100%
Portugal (All commercial
banks)
90%
80%
70%
Other liabilities
60%
Bonds
50%
Customer deposits
40%
30%
Interbank deposits
20%
Borrowing from Central bank
10%
Capital and reserves
0%
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
10
Japan - Assets
100%
90%
Japan
80%
70%
Other assets
60%
Securities
50%
40%
Loans
30%
Interbank deposits
20%
10%
0%
2000
Cash and balance with Central bank
2001
2002
2003
2004
2005
2006
2007
2008
2009
11
Japan - Liabilities
100%
Japan
90%
80%
Other liabilities
70%
60%
Bonds
50%
Deposits
40%
Negotiable Certificates of Deposits
30%
20%
Borrowing from Central bank
10%
Capital and reserves
0%
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
12
US - Assets
100%
US
90%
80%
Other assets
70%
60%
Securities
50%
Loans
40%
Interbank deposits
30%
20%
Cash and balance with Central
bank
10%
0%
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
13
US - Liabilities
100%
US
90%
80%
Other liabilities
70%
60%
Bonds
50%
Customer deposits
40%
Interbank deposits
30%
20%
Borrowing from Central bank
10%
Capital and reserves
0%
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
14
Assets: 10-year average (2000-2009)
100%
Other assets
90%
80%
Securities
70%
60%
Loans
50%
40%
Interbank deposits
30%
20%
Cash and balance with Central
bank
10%
0%
US
Japan
France
Germany
Portugal
15
Liabilities: 10-year average (2000-2009)
100%
Other liabilities
90%
80%
Bonds
70%
Customer deposits
60%
50%
Interbank deposits
40%
30%
Borrowing from Central bank
20%
Capital and reserves
10%
0%
US
Japan
France
Germany
Portugal
16
Assets (with net interbank deposits and excl.
central bank assets) to GDP (%)
300.00
250.00
US
200.00
Japan
France
150.00
Germany
100.00
Portugal (All
Commerical banks)
50.00
0.00
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
17
Comparison of Gross and Net Assets to GDP
(%)
400.00
US
350.00
Japan
France
300.00
Germany
250.00
Portugal (All commercial banks)
200.00
US (with net interbank deposits and excl.
Central bank assets)
150.00
Japan (with net interbank deposits and
excl. Central bank assets)
France (with net interbank deposits and
excl. Central bank assets)
100.00
50.00
Germany (with net interbank deposits and
excl. Central bank assets)
0.00
Portugal (All Commerical banks, with net
interbank deposits and excl. Central bank
assets)
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
18
Issues Raised
• Size of banking systems in France, Germany and Portugal on a net
basis are smaller than on a gross basis so it is important to be careful
in comparing different financial systems to work in net terms for
many issues
• We have focused on interbank markets as these are the easiest to
measure but there is the same issue with regard to netting of
securities and other assets and liabilities held within the banking
system
• Cross country studies that do not do a careful job of working with
net figures for the size of the banking system can be misspecified
• A related issue is how much local and central government financing
is done through the banking system as opposed to bond markets
19
Issues Raised (cont.)
• Why are the interbank markets in France, Germany and Portugal
significant in size while in Japan and the US they are less so?
• Theoretical work suggests interbank markets allow risk sharing (e.g.
Bhattacharya and Gale (1987))
• Is risk sharing better in France, Germany and Portugal than in Japan
and the US or are there other mechanisms such as derivatives at
work?
• Risk sharing within the banking system is clearly an important issue
and needs to be incorporated into the analysis of the comparison of
financial systems
20
France and Portugal versus Germany
• Another important issue is why there is such a difference in
the growth of banks in France and Portugal versus Germany?
• One of the key issues is to what extent expansion of banks was
associated with real estate prices
• Did greater bank size cause higher real estate prices or did
higher real estate prices cause greater bank size or both?
• In order to answer this it is useful to know the amount of
lending to households and firms
21
Household versus Corporate Lending
(1994-2005)
1.8
1.6
1.4
1.2
Enterprise credit to GDP
1.0
Household credit to GDP
0.8
0.6
0.4
0.2
0.0
US
Japan
France
Germany
Portugal
22
Nominal Real Estate Prices
450
400
Housing Price Index
350
300
250
200
150
100
50
0
1996
U.S.
1997
1998
France
1999
2000
2001
Germany
2002
2003
Greece
2004
Ireland
2005
2006
Italy
2007
2008
Portugal
2009
2010
Spain
2011
2012
Sweden
2013
U.K.
23
Non-bank Finance
• We now turn to non-bank finance
• Initially we consider the size of the non-bank financing sector
relative to the banking sector and see this varies substantially
•
Next we consider the structure of the non-bank sector and see
that it also differs substantially
• Finally, we will ask whether it makes a difference whether
banks dominate or there is a more mixed system of finance and
see that there are advantages and disadvantages
24
Banking assets versus Non-banking assets in 2009
US
Japan
Bank
assets/total
assets
23%
Non-bank
assets/total
assets
59%
Non-bank
assets/total
assets
77%
France
Non-bank
assets/total
assets
33%
Bank
assets/total
assets
67%
Bank
assets/total
assets
41%
Germany
Non-bank
assets/total
assets
45%
Portugal
Non-bank
assets/total
assets
21%
Bank
assets/total
assets
79%
Bank
assets/total
assets
55%
25
Structure of non-banking sector in 2009
US
Japan
money market funds
other mutual funds
closed-end companies
Insurance corporations
Automonous pension funds
Other nonbank financial
institutions
France
Germany
Portugal
26
Does Bank versus Non-bank Make a Difference?
Sources of Funding for Home Purchases in the
U.S. 1953-2009
100%
90%
Private-label backed mortgage pools
Other
80%
70%
Agency- and GSE-backed
mortgage pools
60%
50%
40%
Savings institutions and credit unions
GSE-home mortgages
30%
20%
10%
Commercial Banks
0%
27
Sources of Funding for Home Mortgages in
Selected Countries, 2009
Percent
100
90
80
70
60
50
40
30
20
10
0
Deposits
Mortgage bonds, including covered bonds
Residential mortgage-backed securities
Institutional investors
Other
28
Mortgage-backed Covered Bonds as percent of
Residential Loans Outstanding
Percent
100
100
80
67
60
50
44
40
31
19
20
12
6
0.1
0.7
1
13
21
24
25
25
32
25
14
8
2
0
29
• It seems that in terms of crises caused by the bursting of real
estate bubbles it doesn’t make much difference whether they
happen in financial systems like the US with securitizations or
in countries like Spain that use more covered bonds issued by
banks
• Maybe for other forms of crisis caused, for example, by falls
in the value of sovereign bonds, it may make a difference – the
problem is that we have limited experience of these other types
of crisis
• Much more research on this is needed
30
What about Bond Markets?
• We have focused so far on household finance since as we have
seen in many countries such as France and Portugal this is the
majority of banks’ activities
• What about loans to enterprises? In this case bond markets
may be able to substitute for banks’ reduction in lending
• There seems to be limited evidence on this since outside of the
US bond markets are limited in size – there is also the issue of
identifying whether loan reductions and bond supply are a
demand or supply phenomenon
31
What are the Risks that are Important for
Welfare?
• One important issue in choosing the structure of financial
systems is the risk borne by investors
• Wealth invested in banks is not very volatile particularly if
there is government deposit insurance
• Wealth invested in stock markets and other financial markets is
highly volatile
32
2013
2012
2011
2010
2009
2008
2007
2006
2005
2004
2003
2002
2001
2000
1999
1998
1997
1996
1995
1994
1993
1992
1991
1990
Real Value of 1 unit of Investment
Stock Market Volatility
5
4.5
4
3.5
3
S&P 500- US
2.5
Nikkei- Japan
2
CAC 40France
1.5
DAXGermany
1
PSI-Portugal
0.5
0
33
Banks can Intertemporally Smooth while
Markets Cannot
• Allen and Gale (1997) showed that bank-based financial
systems can intertemporally smooth risk and this leads to
higher welfare than market-based systems
• This is achieved by banks running up reserves in good times
and drawing them down in bad times
• Main assumption is that banks are not competitive
34
Concluding remarks
• There are important trade-offs in bank versus non-bank finance
• We have focused on real estate finance since this is at the heart of
many crises including the recent one and here it seems that bank
finance versus market finance does not make too much difference in
terms of triggering financial crises
• Another important issue is risk sharing over time and here banks
have an advantage over stock markets
• However, one important advantage of financial markets is that they
allow more innovation since they are better at providing finance for
new firms through venture capital and private equity (see Allen and
Gale (1999)) - this is the topic of the next session
35
References
Allen, F. and D. Gale (1997). “Financial Markets, Intermediaries, and
Intertemporal Smoothing,” Journal of Political Economy 105, 523-546.
Allen, F. and D. Gale (1999), “Diversity of Opinion and Financing of
New Technologies,” Journal of Financial Intermediation 8, 68-89.
Bhattacharya S and D Gale (1987), “Preference Shocks, Liquidity, and
Central Bank Policy,” in W.A. Barnett and K.J. Singleton (eds.), New
Approaches to Monetary Economics: Proceedings of the Second
International Symposium in Economic Theory and Econometrics,
International Symposia in Economic Theory and Econometrics,
Cambridge University Press, Cambridge, 69–88.
36