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Chapter 2 examines the role of the composition of the investor base and local financial systems for the stability of emerging market portfolio flows and asset prices. The chapter finds that the investor base has been tilting toward making capital flows more sensitive to global financial conditions. However, emerging market economies can improve their resilience by deepening their financial systems.
Chapter 3 looks at the issue of too-important-to-fail and provides new estimates of the implicit funding subsidy received by systemically important banks. The subsidy comes from the expectation that the government will support large banks if they get into distress. Although financial reforms have helped reduce this subsidy, it remains sizeable. Policymakers should aim to remove this advantage to protect taxpayers, ensure a level playing field, and promote financial stability.
Contents
Chapter 2. How Do Changes in the Investor Base and Financial Deepening
Affect Emerging Market Economies?
Chapter 2 examines the role of the composition of the investor base and local financial systems for the stability of emerging market portfolio flows and asset prices. The chapter finds that the investor base has been tilting toward making capital flows more sensitive to global financial conditions. However, emerging market economies can improve their resilience by deepening their financial systems.
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| | Boxes | |||||
| 2.1 | A Primer on Mutual Funds Evolving Emerging Market Assets and Their Investor Bases |
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| Data | 2.2 | Financial Deepening in Emerging Markets Identifying the Financial Stability Effects of Changes in the Investor Base and in Local Financial Systems |
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| Data | 2.3 | Investment Strategies of Institutional Investors | |||
| 2.4 | Are Investors Differentiating among Emerging Markets during Stress Episodes? |
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| 2.5 | Measuring Herding Policy Implications and Conclusions |
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| Tables | |||||
| 2.1 | Size of Global and Local Institutional Investors and Mutual Funds | ||||
| 2.2 | Role of Financial Deepening in Dampening the Impact of Global Financial Shocks on Asset Prices | ||||
| 2.3 | Summary of Methods and Results | ||||
| 2.4 | Sample Economies | ||||
| 2.5 | Definition of Variables Used in Estimations | ||||
| 2.6 | Local Macroeconomic Factors and Global Financial Shocks—The Effect on Asset Prices and Portfolio Flows | ||||
| Figures | |||||
| 2.1 | Investor Base for Bonds in Emerging Markets | ||||
| Data | 2.2 | Trends in Capital Flows to Emerging Markets | |||
| Data | 2.3 | Transformation of Investment Options in Emerging Markets | |||
| Data | 2.4 | Emerging Markets: Shares in Economic Activities and Financial Markets | |||
| Data | 2.5 | Allocation to Emerging Market Assets | |||
| 2.6 | Integration of Emerging Market Assets into Global Markets | ||||
| 2.7 | Herding among Equity and Bond Funds Investing in Emerging Markets | ||||
| 2.8 | Mutual Fund and Institutional Investor Flows | ||||
| 2.9 | Cumulative Monthly Portfolio Flows to Emerging Markets from Different Types of Investors during Distress Episodes | ||||
| 2.10 | Flow Sensitivity to Global Financial Conditions by Fund Characteristics | ||||
| 2.11 | Drivers of Global and Dedicated Funds’ Flows into Emerging Markets around the Global Financial Crisis | ||||
| 2.12 | The Effects of Financial Deepening on the Sensitivities of Asset Returns to Global Risk Factor | ||||
| Data | 2.13 | Sensitivity of Local Yields to Portfolio Flows and Decline in Global Market Making | |||
Chapter 3. How Big is the Implicit Subsidy for Banks Considered Too
Important to Fail?
Chapter 3 looks at the issue of too-important-to-fail and provides new estimates of the implicit funding subsidy received by systemically important banks. The subsidy comes from the expectation that the government will support large banks if they get into distress. Although financial reforms have helped reduce this subsidy, it remains sizeable. Policymakers should aim to remove this advantage to protect taxpayers, ensure a level playing field, and promote financial stability.
| Boxes | |||||
| Data | 3.1 | Cross-Border Banking Linkages | |||
| 3.2 | Benefits and Risks of Large Banks | ||||
| 3.3 | Estimating Implicit Too-Important-to-Fail Subsidies | ||||
| 3.4 | Banks and Sovereign Linkages |
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| 3.5 | Recent Policy Initiatives Addressing the Too-Important-to-Fail Issue | ||||
| 3.6 | Higher Loss Absorbency for Systemically Important Banks in Australia | ||||
| 3.2 | The Ratings-Based Approach | ||||
| Tables | |||||
| 3.1 | Summary of the Estimates of Implicit Subsidies | ||||
| 3.2 | Event Study | ||||
| 3.3 | Summary of Policy Measures | ||||
| 3.4 | Sample of Systemically Important Banks (as of 2012) | ||||
| 3.5 | Benchmark Credit-Rating Estimation Results to Explain the Overall Ratings | ||||
| 3.6 | Unit Rating Uplift: Robustness for Different Samples | ||||
| Figures | |||||
| 3.1 | Effects of Too-Important-to-Fail Protection on a Simplified Bank Balance Sheet | ||||
| Data | 3.2 | Changes in the Number of Banks and the Size of the Banking Sector | |||
| 3.3 | Total Assets of Large Banks | ||||
| 3.4 | Concentration in the Banking Sector | ||||
| 3.5 | Bond Spread Differential between Systemically Important Banks and Other Banks | ||||
| 3.6 | U.S. Banks’ Average Bond Duration | ||||
| 3.7 | Bond Spread Differential for U.S. Banks with Similar Leverage | ||||
| 3.8 | Mean Implicit Subsidy for Systemically Important Banks Estimated with the Contingent Claims Analysis Approach | ||||
| 3.9 | Implicit Subsidy by Type of Bank in the United States | ||||
| 3.10 | Average Subsidies Derived from Credit Ratings | ||||
| 3.11 | Subsidies Derived from Credit Ratings for a Bank Just Below Investment Grade | ||||
| 3.12 | Implicit Subsidy Values for Global Systemically Important Banks | ||||
| 3.13 | Event Tree of Government Policies to Deal with Systemically Important Banks | ||||
