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Subordinated Debt and Market Discipline in Canada

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Author Info
Greg Caldwell
Abstract

The author documents the use by Canadian banks of subordinated debt (SD) as a capital instrument. He reviews the economic benefits of this asset as a mechanism for market discipline and highlights academic and policy research over the past 20 years. The author provides both qualitative and quantitative summaries of the current regulatory and market environment in Canada, and conducts a Tobit analysis of factors that affect a bank's decision to issue SD. He also constructs a cross-section time-series sample of banks, into which controls for fixed effects, along with other non-default risk factors, are incorporated. Results for domestic banks show that, whenever there exists a high degree of gross impaired non-mortgage loans and mortgage writeoffs relative to assets, banks are less likely to issue SD. In contrast, increases in past-due (but still unimpaired) non-mortgage loans have a positive effect on SD issuance. This suggests that domestic banks 'time' their issuance decisions to avoid market discipline.

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File URL: http://www.bankofcanada.ca/en/res/wp/2005/wp05-40.pdf
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Publisher Info
Paper provided by Bank of Canada in its series Working Papers with number 05-40.

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Length: 46 pages
Date of creation: 2005
Date of revision:
Handle: RePEc:bca:bocawp:05-40

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Postal: 234 Wellington Street, Ottawa, Ontario, K1A 0G9, Canada
Phone: 613 782-8899
Fax: 613 782-8874
Web page: http://www.bank-banque-canada.ca/

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Postal: Publications Distribution, Bank of Canada, 234 Wellington Street, Ottawa, Ontario, K1A 0G9, Canada
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Web: http://www.bank-banque-canada.ca/en/publication/pub_res.html

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Related research
Keywords: Financial institutions;

Find related papers by JEL classification:
G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Mortgages
G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation

This paper has been announced in the following NEP Reports:

References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
  1. Allen N. Berger & Sally M. Davies & Mark J. Flannery, 2000. "Comparing market and supervisory assessments of bank performance: who knows what when?," Proceedings, Federal Reserve Bank of Cleveland, pages 641-670.
    Other versions:
  2. Blum, Jurg M., 2002. "Subordinated debt, market discipline, and banks' risk taking," Journal of Banking & Finance, Elsevier, vol. 26(7), pages 1427-1441, July. [Downloadable!] (restricted)
  3. Andrea Sironi, 2000. "Testing for market discipline in the European banking industry: evidence from subordinated debt issues," Finance and Economics Discussion Series 2000-40, Board of Governors of the Federal Reserve System (U.S.). [Downloadable!]
    Other versions:
  4. Calomiris, Charles W., 1999. "Building an incentive-compatible safety net," Journal of Banking & Finance, Elsevier, vol. 23(10), pages 1499-1519, October. [Downloadable!] (restricted)
  5. Donald P. Morgan & Kevin J. Stiroh, 1999. "Bond market discipline of banks: is the market tough enough?," Staff Reports 95, Federal Reserve Bank of New York. [Downloadable!]
  6. O'Hara, Maureen & Shaw, Wayne, 1990. " Deposit Insurance and Wealth Effects: The Value of Being "Too Big to Fail."," Journal of Finance, American Finance Association, vol. 45(5), pages 1587-1600, December. [Downloadable!] (restricted)
  7. Joseph P. Hughes & William W. Lang & Choon-Geol Moon & Michael S. Pagano, 1998. "Measuring the efficiency of capital allocation in commercial banking," Working Papers 98-2, Federal Reserve Bank of Philadelphia. [Downloadable!]
  8. Gorton, Gary & Santomero, Anthony M, 1990. "Market Discipline and Bank Subordinated Debt," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 22(1), pages 119-28, February. [Downloadable!] (restricted)
  9. Calomiris, Charles W & Kahn, Charles M, 1991. "The Role of Demandable Debt in Structuring Optimal Banking Arrangements," American Economic Review, American Economic Association, vol. 81(3), pages 497-513, June. [Downloadable!] (restricted)
  10. Honore, Bo E, 1992. "Trimmed LAD and Least Squares Estimation of Truncated and Censored Regression Models with Fixed Effects," Econometrica, Econometric Society, vol. 60(3), pages 533-65, May. [Downloadable!] (restricted)
  11. DeYoung, Robert, et al, 2001. "The Information Content of Bank Exam Ratings and Subordinated Debt Prices," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 33(4), pages 900-925, November.
  12. Black, Fischer & Cox, John C, 1976. "Valuing Corporate Securities: Some Effects of Bond Indenture Provisions," Journal of Finance, American Finance Association, vol. 31(2), pages 351-67, May. [Downloadable!] (restricted)
  13. Ying Liu & Eli Papakirykos & Mingwei Yuan, 2004. "Market Valuation and Risk Assessment of Canadian Banks," Working Papers 04-34, Bank of Canada. [Downloadable!]
  14. Douglas D. Evanoff & Larry D. Wall, 2000. "Subordinated debt and bank capital reform," Working Paper Series WP-00-7, Federal Reserve Bank of Chicago. [Downloadable!]
    Other versions:
  15. Avery, Robert B & Belton, Terrence M & Goldberg, Michael A, 1988. "Market Discipline in Regulating Bank Risk: New Evidence from the Capital Markets," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 20(4), pages 597-610, November. [Downloadable!] (restricted)
  16. Chan, Yuk-Shee & Greenbaum, Stuart I & Thakor, Anjan V, 1992. " Is Fairly Priced Deposit Insurance Possible?," Journal of Finance, American Finance Association, vol. 47(1), pages 227-45, March. [Downloadable!] (restricted)
    Other versions:
Full references

Cited by:
(explanations, Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.)

  1. Greg Caldwell, 2007. "Best Instruments for Market Discipline in Banking," Working Papers 07-9, Bank of Canada. [Downloadable!]
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