Abstract

We examine the correlation between bank loan approval standards and accounting conservatism. Using the bank loan approval index in the People’s Bank of China as measure of loan standard, we show that accounting conservatism improves when bank loan approval standards are tightened. We then conduct further tests to address the endogeneity and robustness, yielding highly consistent results. Finally, both ownership and the banking connection significantly moderate the relationship between bank loan approval standards and accounting conservatism. Our findings provide policy implications on controlling loan approval standards, which may effectively reduce credit risks and promote accounting conservatism.

Introduction

Credit risk uncertainty for banks has increased since the global financial crisis in 2008 and the 2019 outbreak of the Coronavirus disease 2019 (COVID-19) pandemic. This heightened credit risk uncertainty has led commercial banks to focus more on loan issuance, increasing difficulties for enterprises to secure financing (Goodell, 2020). From the perspective of commercial banks, enterprise solvency is a crucial factor in determining whether to lend, reflected in the disclosure of accounting information. Accounting conservatism, an important indicator of accounting information quality, is often considered to reduce credit risks for commercial banks when approving loans. From the perspective of enterprises, bank loan approval standards indicate the availability of loans and determine the loan interest rate and amount, which directly affect the financing costs of enterprises. Therefore, exploring the influence of bank loan approval standards on enterprises’ accounting conservatism can reduce information asymmetry between commercial banks and enterprises, decrease credit risk for commercial banks, and help high-quality enterprises obtain more credit support.

This study examines the relationship between bank loan approval standards and corporate accounting conservatism to fill the research gap. Previous studies mainly examine the measurement method of accounting conservatism (Basu, 1997), the causes (Watts, 2003), the determinant factors (Shaw et al., 2021), and the economic consequences (Bonetti et al., 2017). Among them, the earnings-stock return measurement method proposed by Basu (1997) is the most widely used, and its measurement results are more accurate than other measurement methods. Other scholars have also adopted the accrual and NI models based on the accrual basis proposed by Ball and Shivakumar (2005). Watts (2003) found that most extant studies focus on contractual relationships, shareholder litigation, accounting control, and government tax, among which debt contract is the most concentrated research.

Conclusions

This paper presents an empirical analysis of the impact of bank loan approval standards on firms’ accounting conservatism. The research findings reveal the following insights.

1. Bank loan approval standards can affect firms’ accounting conservatism, and these two variables have a significant negative correlation. As bank loan approval standards increase in stringency, commercial banks exhibit a declining willingness to lend, consequently reducing the success rate of enterprise loan approvals. To obtain the required loans, enterprises must enhance the quality of accounting information and improve accounting conservatism.

2. State-owned enterprises demonstrate a higher level of accounting conservatism. State-owned enterprises possess unique characteristics and relatively strong creditworthiness, resulting in lower credit risks for banks than non-state-owned enterprises. Given their social responsibilities, capital requirements, and the desire to maintain favorable access to bank loans, state-owned enterprises proactively adopt more robust financial reporting methods to ensure higher-quality accounting information.

3. The background of senior executives in the banking sector can influence the integrity of corporate accounting practices to a certain extent. When corporate executives possess banking experience, their inclination toward accounting conservatism tends to be weaker than executives from other industries. Executives with banking experience foster higher trust between banks and enterprises, leading to relaxed lending requirements and expanded loan availability. As a result, accounting conservatism decreases in these circumstances.

Abstract

     This paper adds to the recent interest in the link between cash and firm performance, by studying how this relationship varies across boom- and bust cycles. We use data of Norwegian firms from a broad range of sectors in the period 2005–2015, and both replicate and extend previous findings on the relationship between cash and performance over the business cycle. We find that i) cash has a positive, but weakly diminishing effect on operational firm performance (ROA) throughout the entire sample period, and ii) that the curvilinear relationship between cash and firm performance is the most pronounced in the pre-recession years, while it is virtually linearly positive in recessions and post-recession periods. We conclude that cash indeed has an impact on firms’ operational performance, and especially so in recessionary times.

Introduction

     Traditionally, strategy scholars have disregarded cash as a strategic asset (e.g. Barney, 1986), while finance scholars have viewed cash holdings as a signal that a firm lacks profitable investment opportunities or have managerial issues (e.g. Jensen, 1986). Recent studies have questioned these views by documenting that cash may indeed be positively related to performance (Kim & Bettis, 2014), and that contextual factors such as state of the business cycle (Nason & Patel, 2016) and competitive dynamics (Deb et al., 2017, Jung et al., 2020, O’Brien and Folta, 2009) are important moderators for the strength of the cash-performance relationship.

     While this recent research stream has made important advancements to our understanding of the relationship between cash and firm performance, we know less about how these insights can be generalized to other contexts than large, listed (manufacturing) companies operating in relatively stable periods, and if relationships between cash and market-based measures of performance also holds for operational measures of performance. Currently, most studies on the cash-performance relationship use samples of large, listed, US, (manufacturing) firms (e.g. Deb et al., 2017; Jung et al., 2020; Kim & Bettis, 2014; O’Brien & Folta, 2009), study relatively stable periods and not more turbulent times such as economic downturns where financing constraints tends to increase (Forseth et al., 2015), and/or use market-based measures of firm performance such as Tobin’s Q as their dependent variables (e.g. Deb et al., 2017; Jung et al., 2020; Kim & Bettis, 2014; O’Brien & Folta, 2009).

Conclusion

     The purpose of this paper was to examine the relationship between cash and firm performance over the business cycle.

     Throughout our analysis we find that cash has a positive impact on firm performance across the different phases of the business cycle. The linear term of cash is highly significant in all our models and across all time periods. The quadratic term is less consistent; in some cases, we identify a curvilinear relationship, whilst sometimes the quadratic term is low and insignificant indicating a linear relationship between cash and firm performance.

     After running our full and expanded models, we conclude that the curvilinear relationship between cash and performance is weakly curvilinear for our sample of Norwegian firms, and that this curve-linearity is the most pronounced in the pre-recession period, and more or less linear during the recession and post-recession periods.

     In closing, we believe that our results add to an important stream of research at the intersection of strategy and finance. Mainstream theories, especially in strategy discard cash and other financial assets as less important drivers for heterogeneity and performance differences. Our findings, and the findings of the studies we build on, challenge these assumptions. It is, however, important to note that cash seems more likely as an indirect source of performance differences, through enabling firms to make investments and deploy strategies that in turn create performance heterogeneity. That is, cash appears to be less of a king, but more a key member of the court that pull some important strings.

Abstract

     Our investigation of 46 conventional and 22 Islamic banks from the Gulf Cooperation Council (GCC) countries during 2008–2021 reveals that sectoral diversification effects on stability are nonlinear and different for the two bank types. While Islamic banks’ stability is worsened only by moderate levels of diversification, conventional banks’ stability is enhanced by high levels and impaired by low levels of diversification. Furthermore, diversification acted as a stabilizer during the global financial crisis but exacerbated the adverse effects of the Covid-19 pandemic. Although regulators usually call for bank diversification, our results imply that it can be a double-edged sword.

Introduction

     Due to dependence on oil and gas revenue and their price plunge caused by the Global Financial Crisis (GFC) in 2008, the governments of the Gulf Cooperation Council (GCC) countries started introducing various policies aiming at developing diversified real and financial sectors.1 While oil and gas production still represents over 40% of the GDP in GCC countries, with the exception of Bahrain and UAE, (Esam, 2021) shows that there has been significant diversification away from hydrocarbon revenue since 2010 in all GCC countries, particularly in Saudi Arabia, UAE and Bahrain. Given the low development of capital markets and non-bank financial institutions in these countries, banks play a pivotal role in assisting the execution of these national diversification policies by providing financing to support investments in the existing and ‘new’ sectors. The proponents of diversification in banking would see this as an opportunity for banks to spread their loans and financing2 across different sectors and thus reduce bank default, liquidity, and bankruptcy risks (Diamond, 1984; Demsetz and Strahan, 1997; Rose and Hudgins, 2006), vulnerability to economic downturns and financial crises (Tabak et al., 2011; Doumpos et al., 2016), and become safer and more stable (Saunders and Walter, 2012). On the contrary, the opponents of diversification would argue that banks are better off by focusing on a single sector or a few sectors as that allows them to leverage their screening and monitoring knowledge and expertise in these sectors and thus reduce the unnecessary complexity, agency problems, overhead expenses (Klein and Saidenberg, 2010), earnings volatility (DeYoung and Roland, 2001), and write-downs and write-offs (Jahn et al., 2013) that usually come with diversification.

Discussion and conclusion

     Against the backdrop of the GCC countries’ ongoing economic diversification policies and banks being the primary financiers of the projects brought about by these policies, we investigate (i) if and how diversification of loans and financing across economic sectors impacts the stability of GCC banks, (ii) if the effects are the same on conventional and Islamic banks, and (iii) if diversification helps banks navigate smoothly through economic downturns such as the 2008 global financial crisis and the ongoing Covid-19 pandemic.

     anks navigate smoothly through economic downturns such as the 2008 global financial crisis and the ongoing Covid-19 pandemic. Analyzing a unique panel dataset of 46 conventional and 22 Islamic banks, we find that there is no one-strategy-fits-all even within these seemingly similar countries. Diversification effects on bank stability are nonlinear and different for Islamic and conventional banks. While Islamic banks’ stability worsens at moderate levels of diversification, conventional banks’ stability thrives at high levels and erodes at low levels of diversification. Given that the diversification measure is an inverse measure of concentration, this means that a high concentration of loans on one or a few economic sectors also benefits conventional banks. Lastly, we observe a temporal dimension of our results which suggests that diversification supported bank stability against the destabilizing effects of the global financial crisis but amplified the adverse effects of the Covid-19 pandemic.

Abstract

We analyze stock market participation in 19 European countries, providing a composite view of the interplay and relative importance of established participation drivers. We jointly control for nearly all relevant drivers found in prior studies, which tend to introduce one novel variable at a time and often omit risk-aversion. Excellent full model predictive power decomposes into institutional (country) fixed effects (about 30% of total), traditional individual-level variables (50%), and more recently identified behavioral variables (20%). We sketch a hierarchical framework where factors’ effects vary by agents’ proneness to participate. We also challenge and complement existing interpretations given to sociability, IQ, trust, and life experiences.

Introduction

Limited stock market participation has been the quintessential topic in the emerging field of household finance.1 Differences in stockholding propensity across countries, and between people of comparable wealth, show that country factors related to economic or cultural institutions are important. On the individual level, wealth, income, and education are highly influential. Besides these traditional factors, more recent studies have uncovered an interesting set of behavioral factors that explain stock market participation. What is missing, however, is a composite view of the interplay and relative importance of the various drivers of participation.

In this paper, we take a novel, big-picture approach. Whereas the literature has tended to focus on testing the effect of a single new factor after controlling for traditional ones, we combine an extensive set of these variables in one model and explore the relative contribution of three types of factors – institutional, traditional, and new behavioral ones. We jointly estimate the effects of all variables while including a directly queried financial risk aversion measure known to predict actual financial risk-taking well (Dohmen et al., 2011; Halko et al., 2012; Guiso et al., 2018; Laudenbach et al., 2020). Then, based on the contribution of individual explanatory variables in various regulatory environments and subsamples of varying sophistication, we sketch a hierarchical model that describes the likely importance of each factor in different contexts.

Conclusion

The stock market participation literature has progressed steadily over the past few decades, but in step-by-step fashion, usually by adding one novel explanatory variable at a time. We take a consolidating approach by examining the roles of institutional, traditional, and behavioral factors, independently and jointly. We use data from SHARE, which comprehensively cover traditional drivers of participation, including risk aversion, and nearly all of the behavioral drivers from the recent stock market participation literature. We take full advantage of the data, exploiting cross-country variation in regulatory quality and varying levels of wealth and education across individuals.

Institutions clearly matter. Of the explanatory power, institutional factors captured by country fixed effects account for about a third. The traditional individual-level variables capture about 50%, and less than a fifth of the variation is explained by the new behavioral variables. We show that the effects of traditional variables and new behavioral variables change across levels of regulatory quality and across levels of wealth and education. In environments where participation rates are higher, such as high regulatory quality countries and among the wealthy and highly educated, variables reflecting values and attitudes have larger effects. In environments with lower levels of participation these variables have smaller or even non-significant effects. To complete our comprehensive approach, we also take a look at individual behavioral drivers and document complementing and contrasting results with previous literature.

Based partly on our results, and partly on prior research, we suggest a hierarchical model of participation drivers. In this model, similar in spirit to Maslow’s (1943) hierarchy of needs, the low-level factors, such as wealth, have to be on a sufficient level before high-level, e.g., psychological, factors can come into play. Further progress in explaining non-participation, particularly among the well-off, would likely benefit from a focus in the high end of the model.

Abstract

In this study, we use an extension of the heterogeneous autoregressive model to investigate the influence of time-varying risk aversion and macroeconomic, financial, and economic policy uncertainty measures on stock market volatility and correlation. Based on the findings, there is a stronger predictive ability of these variables at the monthly frequency than at the daily frequency. We also highlight the importance of risk aversion, which, alongside fundamental factors, reflects investor sentiment in predicting stock market volatility. Meanwhile, although uncertainty variables, such as economic uncertainty and financial uncertainty, are important, the widely used variable, economic policy uncertainty, is not helpful for predicting stock market volatility. Moreover, there is evidence of higher economic value and reduced portfolio risk when including risk aversion and economic uncertainty in international portfolio analysis.

Introduction

Understanding how uncertainty and risk aversion affect the volatility and correlation of financial markets is important for investors when planning their risk management and portfolio selection strategies as well as for policymakers when devising their economic policies.1 Thus, we conduct an empirical study on the relative importance of time-varying risk aversion and different sources of uncertainty in order to predict stock market volatility and correlation as well as determine whether this information is useful for international portfolio analysis.

As emphasized in previous research, risk aversion and economic uncertainty are key determinants of financial returns and risk premiums. Many studies have assumed constant risk aversion and focused on the time variation in economic uncertainty (e.g., Kandel and Stambaugh, 1990; Bansal et al., 2005, 2014). The importance of time variation in risk aversion has been highlighted in Campbell and Cochrane’s (1999) consumption-based asset pricing model. Recently, Bekaert et al. (2022) suggested an asset pricing model in which conditional volatility is driven by variation in both risk aversion and economic uncertainty.2 Economic uncertainty is primarily related to shocks from fundamental factors (e.g., consumption shocks in Bansal and Yaron, 2004), while risk aversion is driven by shocks from both fundamental and non-fundamental factors such as investor sentiment (e.g., Baker and Wurgler, 2006).3

Conclusion

This study contributes to the existing literature by comparing the predictive ability of risk aversion and various sources of economic uncertainty (macroeconomic, financial, and economic policy measures) for stock market volatility and correlation. Our results provide new insights into the relative importance of these predictor variables in stock market volatility and correlation.

In order to examine the influence of risk aversion and various uncertainty predictor variables on U.S. stock market volatility, we use the HAR model extended with exogenous predictor variables of Corsi (2009). As a benchmark model, we use the HAR model extended with the risk aversion and economic uncertainty measures of Bekaert et al. (2022). Our analysis shows the importance of the risk-aversion measure proposed by Bekaert et al. (2022). The results may indicate that non-fundamental factors, such as sentiment, are important for predicting variations in realized volatility. In addition, we find that the financial market uncertainty index from Ludvigson et al. (2021) is beneficial for predicting monthly realized volatility when added to the benchmark model.

In this study, the financial market uncertainty index is constructed from a large number of financial market variables, enabling it to capture the overall uncertainty of financial markets. In contrast to previous research, we find that EPU does not provide useful information for predicting stock market volatility once we account for RA and EU. Similar results are obtained for IP and CLI. Our analyses also show that exogenous predictor variables are more useful for modeling RV at the monthly frequency than at the daily frequency. This is partly because fluctuations in uncertainty follow a much smoother path than changes in stock market volatility, and partly because some of the predictor variables are not available at the daily frequency.

Abstract

A growing body of literature scrutinizes the harmful consequences of capital flight to offshore financial destinations. While financial integration is a well-known facilitator of capital flight, we shed light on an under-appreciated determinant—the availability of an IMF bailout. Expanding on previous literature analyzing moral hazard in the context of IMF programs, we introduce a socially even more destructive mechanism that we label the ‘crash for cash’ effect. We argue that by drawing on the IMF, elites can benefit from accumulating excessive debt to extract rents and hide these safely in offshore financial destinations while steering their countries into financial disaster. To test this mechanism, we show that elite wealth in offshore bank accounts has a first-order impact on a captured government’s willingness to draw on a lender of last resort. From a policy perspective, our analysis underscores the importance of closing financial loopholes to mitigate the devastating socio-economic effects of sophisticated financial engineering in a financially integrated global economy.

Introduction

Capital flight is a key obstacle to sustainable development. While policymakers often point the finger at financial investors, in many cases, well-connected local elites drive capital flight into offshore financial destinations. These elites plunder the wealth of their countries and expatriate assets into safe havens (Jayachandran and Kremer, 2006, Garcia-Bernardo et al., 2017, Andersen et al., 2020).1 Depriving a country of investible capital can lead to a loss of tax revenues and rising inequality, to the effect that elite capital flight ultimately undermines macroeconomic stability (Alesina and Tabellini, 1989, Ndikumana et al., 2014, Frantz, 2018): notwithstanding its ethical status, such behavior undermines the quality of governance, furthering endemic corruption and crony business practices that amplify financial vulnerabilities (Cerra et al., 2008, Meierrieks and Schneider, 2021).

Previous literature analyzing the determinants of elite capital flight identifies dysfunctional governance frameworks that provide a fertile breeding ground for criminal activities such as embezzlement, trade misinvoicing, and tax evasion (for a review, see Cooley et al. (2018)). Weak institutions facilitate capital flight because they allow wealthy elites to move embezzled funds abroad without punishment (Collier et al., 2001, Ndikumana and Boyce, 2003, Le and Rishi, 2006).

Conclusion

The IMF plays a vital role in supporting countries during times of economic hardship, earning it a reputation as “a global payday loan company for countries who have got into trouble and can’t meet their financial commitments — the difference being that instead of charging sky-high interest rates, it demands radical economic reforms”.33

Researchers have analyzed the circumstances under which the IMF decides to intervene and the conditions it imposes in exchange for financial relief (e.g., Reinsberg et al., 2019). We analyze the role of international capital flight and its impact on IMF involvement and program design. We argue that the ability to draw on the IMF creates perverse economic incentives so that a country’s elites can privatize economic gains by moving funds into offshore financial destinations before the arrival of the Fund. Although the Fund possesses numerous instruments to address economic crises, it does not have any means to seize elite wealth in offshore financial destinations, so the costs of elite capital flight are passed onto the population at large.

Highlights

Abstract

Keywords

1. Introduction

2. Background

3. Research methods

4. Findings

5. Discussions

6. Conclusion

Declaration of competing interest

References

Abstract

During the last years, the impacts caused by digital transformation on companies have been disruptive. Contrarily to prior technological revolutions, the current scenario is characterized by the rapid growth of innovation that has impacted organizations differently. In particular, an increasing number of organizations revised their management control systems to adequate their business models to the external pressures made by competitors and regulators. The research aims consist of a bibliometric analysis about the impacts caused by digital transformation on managerial auditing. The research reveals the existence of four independent research area: continuous auditing (Green Cluster), fraud detection (Blue Cluster), data analytics (Yellow Cluster) and technological innovation (Red Cluster). Finally, we developed a research agenda in order to address future research.

1 Introduction

In this paper, we investigate the incidence of borrower discouragement in innovative small- and medium-sized enterprises (SMEs). Innovative start-ups and SMEs are crucial for job creation, innovation and productivity growth (Hall & Lerner, 2010). A crucial issue facing many innovative SMEs is their ability to access external fnance, an issue made even more salient in the wake of the global fnancial crisis (Lee et al., 2015; Lee & Brown, 2017). Consequently, how SMEs are fnanced is a central policy issue given that access to appropriate levels of funding has signifcant implications for frm growth, performance and long-term survival.

Despite growth in alternative forms of fnance such as venture capital, business angel investment and equity crowdfunding in recent years, bank debt continues to represent the primary source of external fnancing for the vast majority of SMEs (Lee & Brown, 2017; Robb & Robinson, 2014). Extant research suggests there are signifcant structural impediments, in the form of informational asymmetries, asset intangibility and skewed returns, which face innovative SMEs seeking bank funding (Berger & Udell, 1998; Cassar, 2004). Limited collateral and unstable cash fows further exacerbate access to external bank fnance for innovative SMEs (Hall & Lerner, 2010; Lee et al., 2015). Indeed, negative expectations regarding the likelihood of obtaining external fnance can be so acute that some SMEs become discouraged from applying altogether (Cowling et al., 2016).1

Abstract

     The emerging-market banking sector plays a significant role in modern-day banking sector stability. In this study, we have used the dynamic conditional correlation (DCC) version of the Generalised autoregressive conditional heteroscedasticity (GARCH) model to estimate the correlation among Emerging Markets (BANKSEK), Latin America (BANKSLA), Brazil, Russia, India, and China (BRIC) (BANKSBC), Portugal, Ireland, Italy, Greece, and Spain (PIIGS) (BANKSPI) and Far East (BANKSFE). The study covers more than 100, 200 and 300 trading days of the GFC (starting July 8, 2008) and the COVID-19 pandemic (starting January 1, 2020). We have found that generally, in the short-term excluding PIIGS, all banks show similar pairwise correlation, and the pattern holds in the medium and long term. The far east banking sector displays a reduced correlation than their counterparts, even following the same pattern.

Introduction

     The modern-day financial market has undergone tremendous change due to the rapid nature of growing challenges and subsequent supervision it faces in the contemporary world (Hassan et al., 2020; Baglioni et al., 2019; Fabris, 2018; Leuz, 2018). It can be stated without any doubt that COVID, as a health-driven medical crisis, has fundamentally influenced the basic concept of modern-day investment (Meher et al., 2020; Kinateder et al., 2021). Previously, the Western financial superpowers dominated the financial market and system (Armijo et al., 2020). However, emerging markets and the corresponding ecosystem have played a significant role in recent times, especially in the aftermath of the COVID (Ahmed et al., 2017; ElBannan, 2020; Jeon and Wu, 2020). Unlike the global financial crisis (GFC), COVID has some fundamentally different impacts on the emerging market, as suggested by other authors. In most cases, the emerging markets are producing a better recovery than their western counterparts (Akhtaruzzaman et al., 2021) and adding up the impact of China and India (Blarel, 2012; Dharani et al., 2022; Liu et al., 2019; Wu, 2019). It has never been more critical to understand the impact of the emerging nations’ financial outlook in the scope of modern-day crises (GFC and COVID).

Conclusion

     GFC and COVID, at a very core, restricted our fundamental understanding of the financial market stability and connectedness. After the GFC, many financial experts predicted that this is low, and there is no chance of having a lower point. However, COVID has proved them wrong. What started as a medical crisis now has converted into a full-blown financial meltdown, especially in the financial sector. As a core of the financial sector, the banking sector is not above the impact, especially in emerging banks. Emerging market banks have defining characteristics compared to the rest of the world, where they must play a significant role in local economic sustainability. Thus, how they impact and work together plays a significant role in their performance. From that point of view, our paper is the first paper that has looked at the spill over behaviour between the emerging market banking sectors and compared the GFC vs COVID relationship among them in different time horizons. From an investor’s point of view, it opens many avenues of a safe investment. Even in the short term, there might be some changes in the pattern of pairwise correlation, especially with PIIGS; both cases are the same in the long term. This suggests that all crises will similarly impact the emerging market banking sector, especially in the medium to long term. The results obtained in the study have severe implications for the governments, policymakers, and portfolio managers in the selected emerging markets. To manage the risk accurately, portfolio managers need to access the covariance between different markets correctly. This makes the DCC values obtained in the study more appealing because it forecasts the covariation between the different emerging markets studies in the paper.

Abstract

Keywords

JEL classification

1. Introduction

2. Argument

3. Research design

3.1. CBI conditionality

3.2. Checks and balances

3.3. Control variables

3.4. Methods

4. Results

4.1. The determinants of CBI conditionality

4.2. Related outcomes

5. Conclusion

Appendix A. Supplementary data

Data availability

References

Abstract

International organizations (IOs) often drive policy change in member countries. Given IOs’ limited political leverage over a member country, previous research argues that IOs rely on a combination of hard pressures (i.e., conditionality) and soft pressures (i.e., socialization) to attain their political goals. Expanding this literature, we hypothesize that IOs can enhance their political leverage through loan conditions aimed at enhancing the political independence of key administrative units. Studying this mechanism in the context of the International Monetary Fund (IMF), we argue that through prescribing structural loan conditions on central banks (CBI conditionality), the IMF empowers central banks to gain more political leverage with the aim to limit a government’s ability to (ab)use monetary policy for political gain. Divorcing monetary authorities from their respective government, the IMF intends to alter political dynamics towards achieving greater program compliance and enhance long-term macro-financial stability. Relying on a dataset including up to 124 countries between 1980 and 2012, we find that the IMF deploys CBI conditionality to countries with fewer checks and balances, a less independent central bank, and where the government relies more heavily on the monetization of public debt.

1 Introduction

International organizations (IOs) often drive policy change in member countries. However, given that IOs have few (if any) means of direct enforcement, it remains unclear how they achieve policy change in member countries. Scholars have distinguished between policy conditionality, the practice of providing loans in exchange for commitments to policy reform (Steinwand and Stone, 2008); ‘naming and shaming’, the practice of reviewing country policies against best-practice standards (Kelley and Simmons, 2015); and socialization, the practice of acculturating policymakers into specific sets of policies emanating from consistent belief systems (Chwieroth, 2013)— as tools for IOs to drive policy reform in member countries.

The goal of our paper is to introduce a novel mechanism into this debate. We argue that IOs can promote policy reform through loan conditions that target the institutional foundations of a member country. In particular, IOs can deploy institution-building measures to divorce key administrative or bureaucratic units from a government through enhancing their political independence. Applying such a strategy, an IO can shield central administrative units from political interference, constrain a government’s ability to (ab)use its power for short-run political gain, and thus enhance its own political leverage.1 Hence, we argue that such institution-building measures can work as an important instrument to attain desired policy change.

We study this mechanism in the context of the International Monetary Fund (IMF). In this respect, IMF conditionality provides a unique laboratory for our theoretical claim. Since the 1980s, IMF has been using a combination of quantitative targets and structural conditions when coming to the financial rescue of countries (Vreeland, 2003; Dreher and Vaubel, 2004; Kentikelenis and Babb, 2019). In prescribing these adjustment programs, the Fund aims to achieve its twin goals of short-term stabilization and long-term policy reform. Knowing about the political costs of these adjustment programs, governments often try to avoid turning to the Fund for financial relief.

Abstract

Graphical abstract

JEL classification

Keywords

1. Introduction

2. Methodology

3. The model and results

4. Robustness

5. Conclusion

Author contributions

Declaration of Competing Interest

Acknowledgments

Appendix A

References

Abstract

In this study, we examine the hedging relationship between gold and US sectoral stocks during the COVID-19 pandemic. We employ a multivariate volatility framework, which accounts for salient features of the series in the computation of optimal weights and optimal hedging ratios. We find evidence of hedging effectiveness between gold and sectoral stocks, albeit with lower performance, during the pandemic. Overall, including gold in a stock portfolio could provide a valuable asset class that can improve the risk-adjusted performance of stocks during the COVID-19 pandemic. In addition, we find that the estimated portfolio weights and hedge ratios are sensitive to structural breaks, and ignoring the breaks can lead to overestimation of the hedging effectiveness of gold for US sectoral stocks. Since the analysis involves sectoral stock data, we believe that any investor in the US stock market that seeks to maximize risk-adjusted returns is likely to find the results useful when making investment decisions during the pandemic.

1. Introduction

The literature on the response of financial markets, including the stock market, to the COVID-19 pandemic is fast growing, owing to its grave consequences. Several studies have examined the impact of the pandemic on financial markets (see for example, Ali et al., 2020; Al-Awadhi et al., 2020; Baig et al., 2020; Haroon and Rizvi, 2020a,b; He et al., 2020; Li et al., 2020; Narayan et al., 2020a,b; Mishra et al., 2020; Phan and Narayan, 2020; Prabheesh et al., 2020; Salisu and Akanni, 2020; Salisu et al., 2020a,b; Salisu and Sikiru, 2020; Salisu and Vo, 2020; Sharma, 2020; Zhang et al., 2020; Sikiru and Salisu, 2021; among others)1 and the evidence suggests a negative impact; consequently, the need to hedge against the risk associated with the pandemic becomes crucial.2 This is the motivation for our study. In response to this challenge, we consider gold to be a potential asset that can serve as a good hedge for stocks against the pandemic risk. The pioneering studies on the gold-stocks nexus (see for instance, McDonald and Solnik, 1977; Sherman, 1982; Jaffe, 1989; Chua et al., 1990) indeed support the inclusion of gold in the equities portfolio for the benefits of portfolio diversification and downside risk management.3,4 This continues to be emphasised in the recent literature with pieces of evidence of negative or low correlation of gold in the investment portfolio containing stocks (see for example, Joy, 2011; Reboredo, 2013; Beckmann et al., 2015; Bredin et al., 2015). This strand of the literature also finds support in the conceptual arguments, which suggest stock market hedging qualities of gold when its return is shown to be negative or uncorrelated with the stocks prices (or returns) (see Baur and Lucey, 2010; Baur and McDermott, 2010; Zagaglia and Marzo, 2013).5 In the class of traditional hedging assets, Shahzad et al. (2020), while not particularly considering the COVID-19 pandemic, have shown that gold offers more effective hedging benefits for G7 stock indices.

1- Introduction

2- Background, data, and suggestive evidence

3- The repeal of the GSA as a natural experiment

4- Evidence from the natural experiment

5- Other robustness checks

6- Conclusion

References

Abstract

Recent regulatory proposals tie a financial institution’s systemic importance to its complexity. However, little is known about how complexity affects banks’ risk management. Using the 1996–1999 deregulations of U.S. banks’ nonbanking activities as a natural experiment, we show that banks’ business complexity increases their operational risk. This result is driven by banks that had been constrained by regulations, compared with other banks and also with nonbank financial institutions that were never subject to these regulations. We provide evidence that managerial failure underlying these events offsets benefits of strategic risk taking.

Introduction

The recent financial crisis has catapulted the regulation of complex financial institutions to the center of policy debate. The business complexity of U.S. bank holding companies (BHCs) has increased significantly since late 1990s due to their aggressive expansion into nonbanking activities. This expansion has been driven primarily by the Gramm-Leach-Bliley Act (GLBA) of 1999, which removed the restrictions on business activities imposed under the Glass-Steagall Act (GSA) of 1933, including securities underwriting and trading. Using the passage of GLBA as a natural experiment, we find that banks’ increased complexity due to expansion into nonbanking activities has caused a deterioration of banks’ operational risk management. This effect is driven by BHCs that were particularly constrained by pre-GLBA regulations, i.e., those BHCs that dealt in bank-ineligible securities through their heavily regulated Section 20 investment banking subsidiaries. The term complexity can be related to different concepts (Cetorelli and Goldberg, 2014), including business diversification, geographic diversification, and network interconnectedness. We follow the guidelines provided by the Bank for International Settlements (BIS) and the Federal Reserve, which relate complexity to the activities of banks outside the traditional business of banking and strictly separate it from other measures, such as interconnectedness, geographic activity, and size (BCBS, 2014a; BGFRS, 2015).