Are financial holding companies’ subsidiaries riskier than bank holding companies’ affiliates

BỘ GIÁO DỤC VÀ ĐÀO TẠO TRƯỜNG ĐẠI HỌC MỞ THÀNH PHỐ HỒ CHÍ MINH BÁO CÁO TỔNG KẾT ĐỀ TÀI KHOA HỌC VÀ CÔNG NGHỆ CẤP CƠ SỞ Are financial holding companies’ subsidiaries riskier than bank holding companies’ affiliates? Mã số: E2020.01.1B Chủ nhiệm đề tài: TS Lý Kim Cương TP.HCM, Tháng 4/2022 BỘ GIÁO DỤC VÀ ĐÀO TẠO TRƯỜNG ĐẠI HỌC MỞ THÀNH PHỐ HỒ CHÍ MINH BÁO CÁO TỔNG KẾT ĐỀ TÀI KHOA HỌC VÀ CÔNG NGHỆ CẤP CƠ SỞ Are financial holding companies’ subsidiaries riskier than bank holding companies’ affiliates? Mã số: E2020.01.1B Xác nhận tổ chức chủ trì Chủ nhiệm đề tài (ký, họ tên, đóng dấu) (ký, họ tên) Lý Kim Cương TPHCM, Tháng 4/2022 ii LỜI CẢM ƠN Để thực thành công đề tài nghiên cứu này, xin chân thành cám ơn tổ chúc cá nhân có liên quan, bao gồm: - Trường Đại học Mở Tp.HCM, đơn vị tài trợ tài cho đề tài - BGH, Phòng Hợp tác-Quản lý khoa học, đơn vị cá nhân trường tạo điều kiện cho chúng tơi hồn thành đề tài nghiên cứu iii TÓM TẮT The insolvency risk of financial holding company subsidiaries and bank holding company subsidiaries in the United States is compared in this research Financial holding company affiliates, on the other hand, have a stronger risk-taking behaviour than bank holding company affiliates, according to the findings Our findings point to a diversification discount in the financial holding company's complicated structure at the subsidiary level To stabilise the banking system, the regulator should take into account the growing risk exposure of financial holding firms' structure JEL Classification: G20, G21, G38 Keywords: insolvency risk, financial holding companies’ affiliates, bank holding companies’ affiliates, the U.S iv MỤC LỤC LỜI CẢM ƠN ii TÓM TẮT iv MỤC LỤC v DANH SÁCH BẢNG vi DANH SÁCH HÌNH vii DANH MỤC CHỮ VIẾT TẮT viii THÔNG TIN KẾT QUẢ NGHIÊN CỨU ix CHAPTER 1: INTRODUCTION CHAPTER 2: BACKGROUND AND LITERATURE REVIEW 2.1 Background 2.1.1 Historical development and regulation of bank holding companies 2.1.2 The source-of-strength doctrine and the cross-guarantee authority 2.1.3 The Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994 2.1.4 Development of financial holding companies 10 2.2 Theoretical framework 11 2.2.1 Diversification theory 11 2.2.2 Complexity theory 13 2.3 Hypothesis development 16 CHAPTER 3: DATA AND METHODOLOGY 19 3.1 Data sample 19 3.2 Propensity score matching method 19 3.3 Summary statistics 23 CHAPTER 4: EMPIRICAL ANALYSIS 26 4.1 Propensity score matching result 26 4.2 Mechanism 27 CHAPTER CONCLUSION 30 5.1 Summary of findings 30 5.2 Research implications and recommendations 30 5.2.1 Policy implications and projecting banking structure 30 5.2.2 Implication for banks’ customers and investors 31 5.3 Research limitations 32 5.4 Avenues for future research 33 REFERENCE 34 v DANH SÁCH BẢNG Table 3.1 Description of variables Table 3.2: Descriptive statistics Table 3.3 Correlation matrix Table 4.1 Propensity score matching result Table 4.2 Mechanism vi DANH SÁCH HÌNH Figure 1: Parallels in control of a branch bank system and an MBHC vii DANH MỤC CHỮ VIẾT TẮT BHC: Bank Holding Company FHC: Financial Holding Company FDIC: Federal Deposit Insurance Corporation FDICIA: Federal Deposit Insurance Corporation Improvement Act viii THÔNG TIN KẾT QUẢ NGHIÊN CỨU Thông tin chung - Tên đề tài: Are financial holding companies’ subsidiaries riskier than bank holding companies’ affiliates? (Có phải ngân hàng cơng ty cổ phần tài tiềm ẩn nhiều rủi ro ngân hàng công ty sở hữu ngân hàng?) - Mã đề tài: E2020.01.1B - Chủ nhiệm: Lý Kim Cương - Cơ quan chủ trì: Đại học Mở Tp HCM Mục tiêu Mục tiêu nghiên cứu tìm mối quan hệ cấu trúc ngân hàng rủi ro phá sản Cụ thể hơn, nghiên cứu so sánh rủi ro phá sản ngân hàng trực thuộc công ty sở hữu ngân hàng (BHC) ngân hàng trực thuộc công ty cổ phần tài (FHC) Sau đó, xem xét lý phức tạp mơ hình tập đồn tài khiến ngân hàng gia tăng rủi ro phá sản Đề án hướng đến trả lời câu hỏi nghiên cứu: Có phải ngân hàng cơng ty cổ phần tài tiềm ẩn nhiều rủi ro ngân hàng công ty sở hữu ngân hàng? (Are financial holding companies’ subsidiaries riskier than bank holding companies’ affiliates?) Tính sáng tạo Ở Việt Nam, ngân hàng thương mại (NHTM) mở rộng hoạt động sang lĩnh vực kinh doanh bảo hiểm theo sở pháp lý Luật kinh doanh bảo hiểm Quốc Hội ban hành năm 2000 Tháng 1/2007, ngân hàng Ngoại Thương Việt Nam (Vietcombank) thành lập Công ty bảo hiểm nhân thọ Vietcombank-Cardif Trong đó, Vietcombank đóng góp 45%, Cardif góp 43%và Seabank góp 12% Theo Luật doanh nghiệp, Vietcombank khơng thể ix trở thành ngân hàng mẹ vốn có số quyền biểu chưa 50% Sự kết hợp nghiệp vụ ngân hàng bảo hiểm tập đoàn tài hướng phù hợp với thơng lệ quốc tế Vấn đề đặt hướng có tiềm ẩn rủi ro tập đoàn mở nhiều hướng kinh doanh khác? Để góp phần làm rõ chất tập đồn tài Việt Nam nghiên cứu mơ hình cơng ty cổ phần tài mơ hình cơng ty sở hữu ngân hàng Mỹ có ý nghĩa thực tiễn định Bài viết khảo sát điều chỉnh pháp luật Mỹ cho phép ngân hàng tham gia vào nhiều lĩnh vực phi tài khác Cuộc khủng hoảng tài 2007-2009 khiến nhiều cơng ty tài lớn chuyển đổi xem xét để chuyển đổi sang mơ hình BHC hay FHC Sự sáp nhập cơng ty bảo hiểm làm gia tang rủi ro cho ngành ngân hàng tổ chức FHC Ngân hàng thương mại nước ta tiềm thu hút nguồn vốn xã hội cung cấp nhiều dịch vụ cho khách hàng Cần thiết phải tham khảo kinh nghiệm Mỹ giúp Việt Nam học hỏi cách xây dựng mơ hình tập đồn tài phù hợp với điều kiện nước ta, hạn chế rủi ro đảm bảo môi trường phát triển lĩnh vực ngân hàng Kết nghiên cứu  Ngân hàng công ty cổ phần tài tiềm ẩn nhiều rủi ro ngân hàng công ty sở hữu ngân hàng  Do tính phức tạp cấu trúc cơng ty cổ phần tài chính, thành viên phi ngân hàng lấy tiền từ ngân hàng con, gây cho ngân hàng khủng hoảng tài có nguy phá sản Sản phẩm Bài đăng tạp chí International Review of Economics and Finance Phương thức chuyển giao kết nghiên cứu địa ứng dụng -Phương thức chuyển giao x Table 3.2: Descriptive statistics FHC affiliates BHC affiliates Variables N Mean Std N Mean Std t-test for difference in means Z-score 7,477 3.896 0.945 86,781 3.879 0.972 Size 7,480 13.271 1.837 87,063 11.709 1.211 *** Deposit 7,480 0.751 0.193 87,063 0.837 0.082 *** Loan 7,480 0.640 0.188 87,063 0.631 0.149 *** OBS 7,480 0.030 0.030 87,063 0.015 0.019 *** Income diversification 7,480 0.236 0.154 87,063 0.164 0.097 *** Cost-to-income 7,480 0.608 0.137 87,063 0.667 0.144 *** Ln_nonbank 5,974 1.672 1.697 87,063 0.792 1.117 *** This table includes descriptive statistics and a t-test for the difference in averages between FHC-affiliated and BHCaffiliated banks The symbols *, **, and *** denote significance at the 10%, 5%, and 1% levels, respectively Table 3.3 shows a correlation matrix In general, no high correlations between explanatory variables are found 24 Table 3.3 Correlation matrix (1) (3) (4) (5) (6) (7) (8) (1) FHC (2) Ln_Zscore 0.00 (3) Size 0.317* -0.032* (4) Deposit -0.237* -0.008* -0.259* (5) Loan 0.017* -0.112* 0.174* 0.091* (6) OBS 0.202* -0.061* 0.494* -0.142* -0.2103* (7) Income diversification 0.186* -0.072* 0.289* -0.314* -0.143* 0.167* (8) Cost-to-income -0.111* -0.373* -0.156* 0.119* -0.060* -0.042* 0.091* (9) Note: This table includes the correlation matrix FHC is a dummy variable that is set to one if a bank is an FHC affiliate and zero if it is not The Zscore is used to assess the likelihood of insolvency (return on assets + capital ratio) / return on asset standard deviation yields the Z-score The standard deviation of return on asset is calculated over a four-year rolling period Size is the logarithm of total asset Deposit equals total deposits divided by total assets The overall debt is divided by the total assets to calculate a loan To arrive to OBS, total assets are divided by off-balance-sheet operations Income diversification is calculated by dividing non-interest income by operational income The cost-to-income ratio is calculated by dividing noninterest expense by operating income 25 CHAPTER 4: EMPIRICAL ANALYSIS 4.1 Propensity score matching result The major outcome of the propensity score matching method is shown in Table 4.1 The probit model's findings suggest that FHC affiliates have a greater ROA but are larger than their BHC counterparts The former has a bigger capital proportion, a lower deposit, but a higher loan, is more diversified, and so has a lower cost-to-income ratio than the later Table 4.1 Propensity score matching result Variable Coefficient Standard error Size 0.265*** 0.005 Deposit -1.577*** 0.056 Loan 0.061 0.045 OBS 3.167*** 0.300 Income diversification 1.052*** 0.062 Cost-to-income -1.168*** 0.052 Observations 84,543 Pseudo R2 0.00 Coefficient Standard error Z-score 0.022 -5.29 Nearest neighbour matching ATE results -0.119*** Note: Using the propensity score matching method, the table compares bank risk between FHC affiliates and BHC affiliates The Z-score is the dependent variable (return on assets + capital ratio) / standard deviation of return on assets is the Z-score Over four-year rolling windows, the standard deviation of return on assets is calculated The descriptive statistics and t-test findings for the difference in means between the two samples are presented in Panel A The propensity, or nearest neighbour matching, is estimated in Panel B For FHC affiliates, dummy equals 1; otherwise, dummy equals The difference in Z-scores is determined as follows: lower-layer MBHC affiliates' Z-scores minus first-layer MBHC affiliates' Z-scores The symbols ***, **, and * imply significance at the 1%, 5%, and 10% levels, respectively The propensity score matching model is based on the average treatment effect (ATT) on Z-score Table 4.1 shows that the treatment impact (-0.119) is negative and significant, indicating that FHC affiliates are more risky than BHC affiliates, confirming our second hypothesis of hierarchical organisational structure complexity ( Detragiache et al 2000, Cheng and Van de Ven 1996, Perrow 1967) While insurance companies use the law of large numbers and loss estimation to build up their liability portfolios (Beltratti and Corvino 2008), financial conglomerate insurance subsidiaries take on greater risks as the scope for claims on banks' deposit insurance funds grows (Freixas et al 2007), putting FHC affiliates at greater risk of insolvency 4.2 Mechanism While FHCs are more sophisticated than BHCs, they struggle to manage all of their subsidiaries when it comes to non-traditional operations Given the importance of interdivisional capital allocation in generating company value, the parent's potential to allocate money inefficiently among competing ventures within the FHC is a concern As a result, we employ the casual mediation analysis to test the underlying mechanism driving our main finding, that is, organizational complexity The casual mediation analysis recommended by (Imai et al 2011, Imai et al 2010, Judd and Kenny 1981) allows researchers to test competing theoretical explanations by identifying intermediate variables or mediators that lie in the causal pathway between the treatment and the outcome If the treatment has no effect on the outcome once the mediators are controlled, one could conclude that the mediators totally mediates the effect of the treatment on the outcome (Judd and Kenny 1981) In this section, therefore, we explore possible underlying mechanisms through which the bank types may affect bank risk by using casual mediation analysis and provide evidence that second hypothesis is valid by the following model: 𝑍 − 𝑠𝑐𝑜𝑟𝑒𝑖𝑡 = 𝛼0 + 𝛽1 𝐹𝐻𝐶𝑖𝑡 + 𝛽2 𝐹𝐻𝐶𝑖𝑡 ∗ 𝐿𝑛_𝑛𝑜𝑛𝑏𝑎𝑛𝑘𝑖𝑡 + 𝛽3 𝐿𝑛_𝑛𝑜𝑛𝑏𝑎𝑛𝑘𝑖𝑡 + ∑𝑛𝑖=1 𝛽𝑖 𝐶𝑂𝑁𝑇𝑅𝑂𝐿𝑆𝑖𝑡 + 𝑇𝑡 + 𝜀𝑖𝑡 (2) FHC is a dummy variable that equals one if the banks are FHC affiliates and zero if they are not Ln nonbank is a complexity metric derived from the Log of Total Non-Bank n Subsidiaries   CONTROLS i 1 i it is a set of control variables, including size, deposit, loan, OBS, income diversification and cost-to-income Tt is time fixed effect  it is an error term 27 FHC is a dummy variable that equals one if the banks are FHC affiliates and zero if they are not Log of Total Non-Bank Subsidiaries calculates Ln nonbank, a measure of complexity Size, deposit, loan, OBS, income diversification, and cost-to-income are all control variables is a time-based effect is an incorrect term Model depicts the solution to the equation (2) Model (2) demonstrates that after we account for Ln nonbank, the negative effect of FHC on Zscore found in Model (1) is removed, showing that the risk difference between FHC and BHC subsidiaries could be channelled through complexity It is reasonable to conclude that FHC subsidiaries are subject to internal capital market cross-subsidization, and that the complex structure of FHCs exacerbates internal capital market cross-subsidization This is due to differences in investment productivity among different types of subsidiaries (Maksimovic and Phillips 2000) Table 4.2 Mechanism FHC FHC * Ln_nonbank Size Deposit Loan OBS Income diversification Cost-to-income Ln_nonbank Year dummies Number of observations R2 Coefficient -0.051** -0.009 0.221** -0.887*** -1.454*** -0.384*** -2.417*** (1) Std error 0.022 0.006 0.091 0.046 0.301 0.075 0.047 Yes 94,258 0.1905 Coefficient 0.214 -0.070*** 0.025** 0.244** -0.456*** 0.391 0.008 -2.049*** -0.104*** (2) Std error 0.033 0.016 0.010 0.121 0.088 0.484 0.133 0.098 0.012 Yes 16,545 0.1951 Note: The table compares FHC-affiliated banks against BHC-affiliated banks in terms of bank risk Affiliates of the BHC are not affiliated with the FHC FHC is a dummy variable that is set to if the affiliates are FHC and if they are BHC Z-score is the dependent variable The Z-score is calculated as (return on assets + capital ratio) / return on asset standard deviation At a fouryear rolling time, the standard deviation of return on asset is determined Panel A displays descriptive statistics as well as a t-test for mean differences between two samples Regression study of insolvency risk is presented in Panel B At the bank level, the standard error is robust and clustered The table does not include the results for year dummies The symbols ** and *** signify significance at the 5% and 1% levels, respectively FHC parents, according to Stiroh and Rumble (2006), prefer expected returns to volatility Some FHCs are shifting their focus away from acquiring new business lines and toward maximising profitability from existing ones According to Deng and Elyasiani, (2008) and Hughes et al (1999), FHC remote and older subsidiaries suffer as a result of their parent's loose supervision, and FHC subsidiaries take unnecessary risks on the orders 28 of powerful owners in the pyramidal structure As a result, the FHC parent may complicate internal capital market cross-subsidization to extract additional profits Another challenge for management incentives is the agency problem between managers of different types of subsidiaries 29 CHAPTER CONCLUSION 5.1 Summary of findings A risk analysis of FHC and BHC affiliates was undertaken in this paper Diversification theory and complexity theory were used to discuss the study's theoretical framework The investigation, which used data from commercial banks in the United States from 1994 to 2017, The complexity theory is supported by the fact that FHC affiliates engage in more risk-taking behaviour than BHC affiliates The complexity theory is supported by the fact that FHC affiliates engage in more risk-taking behaviour than BHC affiliates To summarise, diversification at the parent level may result in a diversity gain in the safety of BHC subsidiaries, but it may result in a diversification discount for FHC equivalents Taken together, these findings give a complete picture of diversification, demonstrating that BHCs can obtain diversity at the subsidiary level by diversifying into nonbank activity When BHCs diversify their business models, however, they have a better chance of succeeding 5.2 Research implications and recommendations 5.2.1 Policy implications and projecting banking structure The findings of this study offer some light on the efficacy of source-of-strength theory and cross-guarantee authority, which were discussed in the first chapter The RiegleNeal Interstate Banking and Branching Efficiency Act of 1994 was originally intended to boost US bank efficiency and global competition These enactments have caused these two bank-failed resolutions to work inefficiently, according to the findings of this study In general, commercial banks and BHCs have been regulated to safeguard depositors and instil public confidence in banking stability, according to Longbrake (1974) Following the banking crises of the 1980s and early 1990s, regulators and Congress compelled the sector to share such costs in order to safeguard the deposit insurance system by requesting that BHC parent act as a rescuer for financially distressed bank subsidiaries It's the proper way to share the weight of subsidiary costs with the parent company However, if supervisors not rigorously oversee bailouts of distressed FHCs, the problem might become severe Because holding company banks are tightly linked to their parent firms and nonbank entities, this is the case Three policy implications are presented in this study To begin, authorities should focus their efforts on regulating banks at the subsidiary level in order to limit their risky behaviour The movement of funds from bank subsidiaries to nonbank firms should be restricted by regulators In this regard, regulators should revisit BHC's source-of-strength theory to ensure that FHC affiliates can benefit from their parent's bailout in the future Second, regulators should examine risk exposure between banks connected with BHC and FHC separately when dealing with complexity issues inside the FHC structure Third, bank regulators should place additional restrictions on FHC parent's M&A applications and report their difficulties to the public, given that FHC parent tries to mitigate inherent risks of their subsidiaries by involving them in successive M&A inside the structure Initially, each application was evaluated on its own merits under the Bank Holding Company Act of 1956 Taking the three recommendations above into consideration, this study advises that the clearance process for new bank acquisitions under the FHC structure be made more severe in order to screen out weaker bank subsidiaries The overall conclusion of this thesis is that, depending on the form of the financial organisation, diversification can be either efficient or inefficient The failures of banks during the recent financial crisis of 2007-2009 raised doubt on the benefit of diversification As a result, predicting future U.S banking structure is critical for gaining a better understanding of the benefits and costs of a focus/diversification approach 5.2.2 Implication for banks’ customers and investors The key elements of bank regulation work together to best serve the interests of depositors and financial market participants The dissertation's focus on three areas of permissible scopes of bank activities, bank risk, and the possibility of M&A provides a better knowledge of banks' customers, investors, and shareholders for practical considerations This research also reveals that bank structure is important to both investors and customers 31 Over the last two decades, investors have been concerned about the riskiness of BHCs For example, Goetz et al (2016) found that geographic diversity reduces BHC risk but has no influence on loan quality in a recent research evaluating the effect of BHC geographic growth across U.S metropolitan statistical areas on BHC risk Understanding the structure of BHC and FHC could provide a better understanding of the risk that banks face from investors and financial markets, as well as the economic reasoning that underpins the M&A boom The primary takeaway from this research is that total diversification is not ideal, but a small amount of diversification is Investors can make more informed decisions about their financial portfolios if they grasp this important notion Customers can benefit from various products in one place with more product offers (Frankel 2013) Customers of FHC affiliates can profit from one-stop shopping, according to this study The predicted expenses of financial difficulty can be lessened to some extent As a result, investors have a lot of options for buying products from BHC affiliates while still feeling safe about their money The implications of these findings are that, on the one hand, investors can profit from the services of FHC affiliates' one-stop shop without worrying about their ability to cut back on services during a downturn Investors, on the other hand, should be wary of FHC affiliates' risk-taking tendencies 5.3 Research limitations This section acknowledges the thesis's research constraints The importance of removing regulatory barriers to entry in 1994, which drastically altered the US banking structure and permissible scope of banking activity, was stressed in the study It is acknowledged that the first essay should begin qualitative study of various banking business activity in 1994, allowing the second essay to provide more exact risk implications However, the first essay's main goal is to gain a better understanding of the disaggregated components of every banking activity, such as securitized assets, derivatives, unused loan components, and deposits Even though the call report is accessible for this period, it confronts data issues in obtaining disaggregated data from 1994 to 2001 32 5.4 Avenues for future research This thesis proposes legislative ideas and feasible recommendations for the future development of the US financial system Although this study contains useful information about commercial banks in the United States, the development of specialised vs diversified structures may differ across countries As a result, additional research is required in other nations, such as Japan, where the business group is well established Such research could be beneficial for the various regulatory contexts in Asia, as well as continue to contribute to the regulatory discussion over whether a focus strategy or diversification strategy will work best in their banking sector Since deregulation, the conditions in which FHCs and BHC affiliates operate have changed dramatically, for example, because to increased competition from other sources of finance FHC affiliates with the most diversification in diverse risk-taking activities may have the best performance and cost efficiency A detailed examination of the organisational complexity reveals that FHC affiliates are at risk as a result of 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The recent experience regarding Japanese Regional BHCs’, Asia-Pacific Financial Markets, Vol 10, pp 359-376 38 ... BÁO CÁO TỔNG KẾT ĐỀ TÀI KHOA HỌC VÀ CÔNG NGHỆ CẤP CƠ SỞ Are financial holding companies’ subsidiaries riskier than bank holding companies’ affiliates? Mã số: E2020.01.1B Xác nhận tổ chức chủ trì... THƠNG TIN KẾT QUẢ NGHIÊN CỨU Thơng tin chung - Tên đề tài: Are financial holding companies’ subsidiaries riskier than bank holding companies’ affiliates? (Có phải ngân hàng cơng ty cổ phần tài tiềm... tiềm ẩn nhiều rủi ro ngân hàng công ty sở hữu ngân hàng? (Are financial holding companies’ subsidiaries riskier than bank holding companies’ affiliates? ) Tính sáng tạo Ở Việt Nam, ngân hàng thương