Finance: Research, Policy and Anecdotes

A couple of very interesting papers have recently completed successfully the review process at the Review of Finance.

Bo Becker and Victoria Ivashina assess crowding out of corporate lending by banks’ sovereign debt holdings during the Eurozone crisis in ”Financial Repression in the European Sovereign Debt Crisis.” After the Global Financial Crisis of 2008 there was a rapid increase in government debt, driven by the Great Recession (and partly countercyclical fiscal policy) and bank bail-outs. A large share of the additional debt ended up on banks’ balance sheets, a phenomenon often referred to as financial repression, if this happens below market prices and outside the regular market process.  While this implied a reduction in bank lending to the corporate sector, the authors are able to isolate the supply-side of this effect (lower demand for corporate lending might have come from the Great Recession and the Great Trade Slump) by focusing on within-firm choices between bond issues and bank loans.  As domestic government debt issues increased, more firms switched from bank loans to bond issues.   The authors also assess different channels through which this financial repression has worked, including government ownership and government representation on banks’ boards.

The paper is part of an expanding literature that studies the accumulation of domestic sovereign debt during the European sovereign debt crisis.  While some claim local information advantages, such as Orkun Saka, others focus on moral suasion, such as in this interesting paper by Steven Ongena, Alex Popov and Neltje Van Horen using bank-level data on government-debt holdings. The paper is also related to another paper forthcoming in the Review of Finance, by Carlo Altavilla, Marco Pagano and Saverio Simonelli who use monthly bank-level data to show that public, bailed-out and poorly capitalized banks responded to domestic sovereign stress by purchasing domestic public debt more than other banks, consistent with both the “moral suasion” but also the “carry trade” hypothesis, first put forward by Viral Acharya and Sascha Steffen.

Melissa Jaud, Madina Kukenova and Martin Strieborny add to the finance and international trade literature in “Finance, Comparative Advantage, and Resource Allocation”, a literature close to my heart as my job market paper contributed to this literature in its early days. Specifically, using disaggregated product-level data from 71 countries exporting to the USA, the authors show that exporters exit the US market sooner if their products are not supported by the exporting country’s comparative advantage, as revealed through the distance between revealed factor intensity of the export good and the exporting country’s factor endowments. This pattern is stronger when the exporting country has a well-developed banking system.  These results confirm the disciplining role that competition in the product market can play, in interaction with market discipline exercised by lenders.

Kathryn Dewenter, Xi Han and Jennifer Koski assess the effect of euro conversion on competition across stock exchanges within the Eurozone in “Who Wins When Exchanges Compete? Evidence from Competition after Euro Conversion”. They find that in the year following euro conversion bid-ask spreads across European exchanges fall an average of almost 9% while turnover (defined as trading volume scaled by shares outstanding) rises over 30%, so clear aggregate gains, to be explained by trading with only one currency! However, there are winners and loser across the different exchanges; specifically, Milan, Frankfurt, Paris and London are the winners with significant increases in turnover, while Brussels and Madrid are the biggest losers with significant declines. They explain these differential effects with different composition of the listed firm population. Interestingly, the euro conversion and consequent increase in competition did not result in a winner takes all outcome, in spite of the network externalities for capital markets. 

Overview