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What are the bank-specific and macroeconomic drivers of banks’ leverage? Evidence from Luxembourg

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  • Gaston Giordana

    ()

  • Ingmar Schumacher

    ()

Abstract

We investigate the leverage cycle in Luxembourg’s banking sector using individual bank-level data for the period 2003 Q1–2010 Q1. One of our findings is that Luxembourg’s banks have a procyclical leverage. This procyclicality is not due to marking-to-market but because Luxembourg’s banks are liquidity providers to the EU banking sector. We then empirically investigate the role of bank characteristics as well as real, financial and expectation variables that proxy for macroeconomic conditions in the pre-crisis and crisis period. We find that off-balance sheet exposures have different effects in the pre-crisis and crisis period, and that the share of liquid assets in the portfolio only affects security holdings. As for macroeconomic variables, we find that the Euribor-OIS spread is a significant driver of the build-up in leverage in the pre-crisis period. The reason is that most banks in Luxembourg are either branches or subsidiaries. This makes leverage a less relevant indicator of riskiness for investors. It also implies that in times of liquidity shortages, mother companies or groups demand further liquidity from their branch or subsidiary. The downturn in leverage during the crisis can be accredited to reductions in expectations, which we proxy by an economic sentiment indicator. It can also be explained by increasing bond prices which induce depositors to shift their funds from bank deposits into bonds. We find no important role for GDP growth. Copyright Springer-Verlag Berlin Heidelberg 2013

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Bibliographic Info

Article provided by Springer in its journal Empirical Economics.

Volume (Year): 45 (2013)
Issue (Month): 2 (October)
Pages: 905-928

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Handle: RePEc:spr:empeco:v:45:y:2013:i:2:p:905-928

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Keywords: Leverage dynamics; Banking sector; GMM estimation; Crisis effect;

References

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  1. R Blundell & Steven Bond, . "Initial conditions and moment restrictions in dynamic panel data model," Economics Papers W14&104., Economics Group, Nuffield College, University of Oxford.
  2. Carmen M. Reinhart & Kenneth S. Rogoff, 2009. "The Aftermath of Financial Crises," American Economic Review, American Economic Association, vol. 99(2), pages 466-72, May.
  3. Nobuhiro Kiyotaki & John Moore, 1995. "Credit Cycles," NBER Working Papers 5083, National Bureau of Economic Research, Inc.
  4. Adrian, Tobias & Shin, Hyun Song, 2010. "Liquidity and leverage," Journal of Financial Intermediation, Elsevier, vol. 19(3), pages 418-437, July.
  5. Bernanke, Ben & Gertler, Mark, 1989. "Agency Costs, Net Worth, and Business Fluctuations," American Economic Review, American Economic Association, vol. 79(1), pages 14-31, March.
  6. Markus K. Brunnermeier, 2009. "Deciphering the Liquidity and Credit Crunch 2007-2008," Journal of Economic Perspectives, American Economic Association, vol. 23(1), pages 77-100, Winter.
  7. Stephen G. Cecchetti, 2009. "Crisis and Responses: The Federal Reserve in the Early Stages of the Financial Crisis," Journal of Economic Perspectives, American Economic Association, vol. 23(1), pages 51-75, Winter.
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