Targeting banks' structural reform

Strengthening financial stability through the separation of risky trading activities from more customer-oriented activities is the core objective of banks’ structural reforms. These reforms, which have been at the core of the policy discussion in recent times in Europe, are usually targeting few very large and complex banking groups which offer a very diversified set of services. This papers investigates some of the proposed and discussed metrics (e.g. HLEG, Commission and OECD), all based on banks’ balance sheet information, which are indeed used to identify those institutions which should be considered for structural separation. We illustrate and compare different metrics using a sample of about EU listed banks, scanning the period 2008-2012, whose scope is to measure, in absolute and relative terms, banks’ involvement in risky activities associated to trading. Via robust clustering techniques, we set thresholds (hard and soft) which can be used for screening whose banks may be proposed for structural separation. Results show that alternative definitions broadly identify similar clusters and the list of banks does not vary significantly. We also discuss the introduction of a grey-zone around the proposed thresholds, which allows taking into account the changes in the activities that banks may implement. Further, we investigate the use of an alternative metrics more related to bank’s business model than to the size of its trading activities. The business model metric is strictly related to the notion of Distance to Default. More precisely, it is built using the balance sheet variables, which are found to be the most significant to estimate the Distance to Default. Due to the complementary information arising from these two different banks’ risk measures, we propose to couple one metric assessing the bank’s involvement in trading with the metric associated to bank’s business model.

CAMPOLONGO Francesca;  PAGANO Andrea;  CARIBONI Jessica;  NDACYAYISENGA Nathalie; 

2015-01-05

The Risk, Banking and Finance Society

JRC89719