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Financial System Architecture and the Co-evolution of Banks and Capital Markets

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  • Fenghua Song
  • AnjanV. Thakor

Abstract

We examine financial system architecture evolution and show that banks and markets exhibit three forms of interaction: competition, complementarity and co-evolution. Co-evolution is generated by two elements missing in previous analyses: securitisation and bank equity capital. As banks evolve via improvements in credit screening, they securitise higher quality credits. This encourages greater investor participation and spurs capital market evolution. And, if capital market evolution is spurred by greater investor participation, banks find it cheaper to raise equity capital to satisfy endogenously arising risk-sensitive capital requirements. Bank evolution is thus stimulated as banks consequently serve previously unserved high-risk borrowers. Numerous additional results are obtained. Copyright © The Author(s). Journal compilation © Royal Economic Society 2010.

Suggested Citation

  • Fenghua Song & AnjanV. Thakor, 2010. "Financial System Architecture and the Co-evolution of Banks and Capital Markets," Economic Journal, Royal Economic Society, vol. 120(547), pages 1021-1055, September.
  • Handle: RePEc:ecj:econjl:v:120:y:2010:i:547:p:1021-1055
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    Cited by:

    1. Timothy Bianco & Dieter Gramlich & Mikhail V. Oet & Stephen J. Ong, 2012. "Financial stress index: a lens for supervising the financial system," Working Paper 1237, Federal Reserve Bank of Cleveland.
    2. Dennis Essers & Hans J. Blommestein & Danny Cassimon & Perla Ibarlucea Flores, 2016. "Local Currency Bond Market Development in Sub-Saharan Africa: A Stock-Taking Exercise and Analysis of Key Drivers," Emerging Markets Finance and Trade, Taylor & Francis Journals, vol. 52(5), pages 1167-1194, May.
    3. Huang, Ho-Chuan (River) & Fang, WenShwo & Miller, Stephen M., 2014. "Does financial development volatility affect industrial growth volatility?," International Review of Economics & Finance, Elsevier, vol. 29(C), pages 307-320.
    4. Adeline Saillard & Thomas Url, 2011. "Venture Capital in Bank- and Market-based Economies," WIFO Working Papers 389, WIFO.
    5. Thakor, Anjan V., 2016. "Corporate culture in banking," Economic Policy Review, Federal Reserve Bank of New York, issue Aug, pages 5-16.
    6. Mattana, Elena & Panetti, Ettore, 2014. "Bank liquidity, stock market participation, and economic growth," Journal of Banking & Finance, Elsevier, vol. 48(C), pages 292-306.
    7. Liu, Guanchun & Zhang, Chengsi, 2016. "The dynamic linkage between insurance activities and banking credit: Some new evidence from global countries," International Review of Economics & Finance, Elsevier, vol. 44(C), pages 40-53.
    8. Hryckiewicz, Aneta & Kozłowski, Łukasz, 2017. "Banking business models and the nature of financial crisis," Journal of International Money and Finance, Elsevier, vol. 71(C), pages 1-24.
    9. Mikhail V. Oet & John M. Dooley & Amanda C. Janosko & Dieter Gramlich & Stephen J. Ong, 2015. "Supervising System Stress in Multiple Markets," Risks, MDPI, Open Access Journal, vol. 3(3), pages 1-25, September.
    10. Ben Jedidia, Khoutem & Boujelbène, Thouraya & Helali, Kamel, 2014. "Financial development and economic growth: New evidence from Tunisia," Journal of Policy Modeling, Elsevier, vol. 36(5), pages 883-898.
    11. Hryckiewicz, Aneta & Kozlowski, Lukasz, 2014. "Banking business models and the nature of financial crises," MPRA Paper 64072, University Library of Munich, Germany, revised 09 Mar 2015.
    12. Mehmet Balcilar & Rangan Gupta & Chien-Chiang Lee & Godwin Olasehinde-Williams, 2018. "The Synergistic Effect of Insurance and Banking Sector Activities on Economic Growth in Africa," Working Papers 201818, University of Pretoria, Department of Economics.
    13. Adeline Saillard & Thomas Url, 2011. "Venture capital in bank - and market - based economies," Université Paris1 Panthéon-Sorbonne (Post-Print and Working Papers) halshs-00593962, HAL.
    14. Adeline Saillard & Thomas Url, 2011. "Venture capital in bank - and market - based economies," Documents de travail du Centre d'Economie de la Sorbonne 11025, Université Panthéon-Sorbonne (Paris 1), Centre d'Economie de la Sorbonne.
    15. Peia, Oana & Roszbach, Kasper, 2015. "Finance and growth: Time series evidence on causality," Journal of Financial Stability, Elsevier, vol. 19(C), pages 105-118.
    16. Ivanov, Ivan T. & Santos, Joao A. C. & Vo, Thu, 2014. "Tying loan interest rates to borrowers' CDS spreads," Finance and Economics Discussion Series 2014-70, Board of Governors of the Federal Reserve System (U.S.).

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