Banque Nationale De Belgique Sa · EURONEXT:BNB
Banque Nationale De Belgique Sa — Technical Presentation (June 2014)
55 slides from Banque Nationale De Belgique Sa's technical presentation, Jun 20, 2014
Slide 1: Assessing Capital Regulation in a Macroeconomic Model with Three Layers of Defaults
Assessing Capital Regulation in a Macroeconomic Model with Three Layers of Defaults Kalin Nikolov ECB National Bank of Belgium, 20 June 2014 National Bank of Belgium, 20 June 2014 Kalin Nikolov (ECB) Assessing Capital Regulation in a Macroeconomic Model with Three Layers of Defaults / 54
Slide 2: MaRs
MaRs MaRs (Macro-prudential Research network) launched in Spring 2010 by the European System of Central Banks Three areas of research: - WS1: Macro-…nancial models linking …nancial stability and the performance of the economy (MaRs’primary research topic) - WS2: Early warning systems and systemic ri
Slide 3: The Project
The Project Aim: Build a decision-support tool to provide valuable feedback to policymakers - state of the art research: dynamic stochastic general eqm - central role of default (Bank default, Firm default, Household default – 3D) - policy analysis framework: welfare analysis + cost/bene…ts macropru
Slide 4: Overview of policy conclusions
Overview of policy conclusions Policy focus on capital requirements Steady state CRs - Large gains from raising CRs when risk of bank failure is signi…cant Model dynamics under di¤erent CRs - Bank-related ampli…cation channels are strong when risk of bank failure is high - CRs e¤ective at shutting t
Slide 5: Outline
Outline Overview of the 3D model Model details and parameterization Policy Exercises Conclusions National Bank of Belgium, 20 June 2014 Kalin Nikolov (ECB) Assessing Capital Regulation in a Macroeconomic Model with Three Layers of Defaults / 54
Slide 6: Overview of the 3D Model
Overview of the 3D Model National Bank of Belgium, 20 June 2014 Kalin Nikolov (ECB) Assessing Capital Regulation in a Macroeconomic Model with Three Layers of Defaults / 54
Slide 7: 3D Model Structure
3D Model Structure National Bank of Belgium, 20 June 2014 Kalin Nikolov (ECB) Assessing Capital Regulation in a Macroeconomic Model with Three Layers of Defaults / 54
Slide 8: Costs of financial instability
Costs of …nancial instability Bank risk arises from borrower default risk: - idiosyncratic risk: due to imperfect diversi…cation - aggregate risk: due to aggregate (real and …nancial) shocks - Default causes bankruptcy costs Why are bank defaults excessive? - bailout expectations =) implicit subsidy
Slide 9: Amplification channels in the model
Ampli…cation channels in the model Bank capital ampli…cation channel - Aggregate (-) shocks hit bank borrowers, raising defaults and reducing bank capital - Bank capital reduction limits credit supply =) further real economy deterioration + more defaults - Bank capital reduced further ... Bank fundi
Slide 10: Related Literature
Related Literature Bank capital channel in models without bank default: Gertler and Kiyotaki (2010), Meh and Moran (2010), Gertler and Karadi (2011), Brunnermeier and Sannikov (2014) [no focus on capital requirements] Models emphasizing ‘…re sale’or investment externalities: Bianchi and Mendoza (201
Slide 11: 3D Model details and parameterization
3D Model details and parameterization National Bank of Belgium, 20 June 2014 Kalin Nikolov (ECB) Assessing Capital Regulation in a Macroeconomic Model with Three Layers of Defaults / 54
Slide 12: Households
Households Grouped in two distinct dynasties which provide risk-sharing to their members: the saving dynasty (j = s) and the borrowing dynasty (j = m). " " ## ∞ t +i $jt +i 1 +η max Et ∑ β j log ctj +i + vtj +i log htj +i lj 1 + η t +i i =0 derive utility from: - a consumption good (ctj ) - a durabl
Slide 13: Patient Households (Savers)
Patient Households (Savers) Intertemporal budget constraint cts + qtH hts + dt wt lts + 1 etD dt 1 δH qtH hts 1 + R Tts + Πt + Λt where dt 1 are saving deposits whose (risky) return is given by etD = 1 R γPDtB RtD 1 where γ is a transaction cost incurred when banks default and PDtB is the average ba
Slide 14: Impatient Households (Borrowers)
Impatient Households (Borrowers) Dynamic budget constraint ctm + qtH htm btm Z ∞ n o wt ltm + max ω m H t qt 1 δH htm 1 Rtm 1 btm 1 , 0 dF m (ω m ) 0 m where bt : conventional (uncontingent) debt Default whenever house value is less than required repayment ωm H t qt 1 δH htm 1 < Rtm 1 btm 1 where ω
Slide 15: The Impatient Household Problem
The Impatient Household Problem Choose consumption, housing, leverage and labour supply subject to: Budget constraint of the dynasty ctm + qtH htm btm wt ltm + (1 Γm ( ω m H m t )) qt ht 1 Ttm , Participation constraint of the bank h i Et max ω H e R H b t +1 t +1 t m R D m d t t , 0 ρt e H . where
Slide 16: Banks and Bankers
Banks and Bankers Banker (Risk neutral agents: 2 period-OLG) A banker born at time t receives a bequest from the previous generation of bankers. t: decides how to allocate his wealth as inside equity into the 2 class of banks (mortgages & business loans) t + 1: values leaving gifts/ transfers to …rm
Slide 17: Bankers
Bankers In the second period of life maximizes χb b max ctb+1 (ntb+1 )1 χ ctb+1 ,n tb+1 subject to: ctb+1 + ntb+1 Wtb+1 Wte+1 : …nal wealth ntb+1 : net worth left to next cohort of bankers ctb+1 :transfers to savers Optimizing behavior yields ctb+1 = χb Wtb+1 and ntb+1 = (1 χb )Wtb+1 . National Bank
Slide 18: Bankers (cont'd)
Bankers (cont’d) Hence in …rst period of life, solves portfolio problem ρFt+1 etF + e max Et (W bt+1 ) =Et (e ρM b t +1 nt etF ). etF where eρFt+1 : ex post gross return on the inside equity invested in each bank First order condition wrt etF : ρFt+1 = Et e Et e ρM t +1 = ρ t , where ρt : bankers re
Slide 19: Banks
Banks Mortgage banks’pro…ts: h i π Ft+1 = max ω t +1 R̃tH+1 btm RtD dtm , 0 , Regulatory capital constraint is etH φH m t bt , The default threshold is RtD ωH t +1 = (1 φH t ) , (1) R̃tH+1 The ex post rate of return on equity is 1 ΓH ( ω H H t +1 ) R̃t +1 ρH et +1 = . (2) φH t National Bank of Belgi
Slide 20: Credit Supply to Households
Credit Supply to Households Competitive banks supply loans to households, btm , using deposit funding dt and equity funding e H as long as lending yields the market required expected return ρt on bank equity h i Et max ω H e R H b t +1 t +1 t m R D m d t t , 0 ρt e H . where ω H eH t +1 is a mortgag
Slide 21: Entrepreneurs
Entrepreneurs Risk neutral agents OLG-founded version of BGG: Entrepreneurs live for two periods and transmit net worth through bequests own physical capital stock capital …nanced partly with corporate loans and partly with inhereted net worth default when value of the …rm less than debt repayment v
Slide 22: Entrepreneurs
Entrepreneurs In second period of life, maximize e e max (cte+1 )χ (nte+1 )1 χ (3) cte+1 ,n te+1 subject to: cte+1 + nte+1 Wte+1 Tte where Wte+1 : …nal wealth nte+1 : net worth left to next cohort of entrepreneurs cte+1 : transfers to savers Optimizing behavior yields cte+1 = χe Wte+1 (4) nte+1 = (1
Slide 23: Entrepreneurs (cont'd)
Entrepreneurs (cont’d) Hence in …rst period of life maximize: max Et (W et+1 ) (6) k t ,b te ,R tF where h i W et+1 = max ω et+1 rtk+1 + (1 δ) qtK+1 kt RtF bte , 0 (7) and their period t resource constraint is qtK kt bte = net (8) RtF : contractual gross interest rate on loans rtk+1 + (1 δ) qtK+1 kt
Slide 24: The corporate contracting problem
The corporate contracting problem Entrepreneurs choose capital (kt ) and leverage (xte = (Rte bte ) / qtK kt ) to maximize: h i max e E t ( 1 Γ e ( ω e t +1 )) R K q K t +1 t tk xt ,kt subject to the participation constraint of the bank: Et ( 1 etF+1 = ρ φF , ΓF (ω Ft+1 ))R (9) t t where etF+1 = (Γe
Slide 25: Product Markets (Standard)
Product Markets (Standard) Consumption Goods - Combine capital rented from entrepreneurs with household and entrepreneurial labour inputs. Physical Capital - Firms optimize intertemporally in response to changes in the price of capital - Subject to investment adjustment costs Housing - Similar to Ph
Slide 26: Capital production firms
Capital production …rms Investment It = kt (1 δ) kt 1 requires resources It 1+g It It 1 where g ItIt 1 is the investment adjustment cost function. Firm is owned by the patient households =) choose investment It in order to maximize ∞ λs Iτ Et ∑ τs qτK Iτ 1+g Iτ , t = τ λt Iτ 1 FOC: 2 It It It It +1
Slide 27: Market clearing conditions
Market clearing conditions Bank capital market h i qtH htm xtm (1 χb )Wtb = φFt qtK kt (1 χe )Wte + φM t . Rtm Deposit market h i qtH htm xtm dt = (1 φFt ) qtK kt (1 χe )Wte + (1 φM t ) . Rtm Labour market yt = lts + ltm . (1 α) wt Physical capital market: entrepreneur demand equals capital-producin
Slide 28: Baseline Parameters Setting
Baseline Parameters Setting Baseline capital requirements: φM , φF = (0.04, 0.08) Default (annualized): - Banks: 2% - Entrepreneurs: 3% - Households: 0.35% Leverage Entrepreneurs & Households: 75% Risk Weight: 50% on housing loans Transaction cost incurred when banks default (γ): 0.1 Annual equity r
Slide 29: Policy Exercise: Higher steady state capital requirements
Policy Exercise: Higher steady state capital requirements National Bank of Belgium, 20 June 2014 Kalin Nikolov (ECB) Assessing Capital Regulation in a Macroeconomic Model with Three Layers of Defaults / 54
Slide 30: Higher steady state capital requirements
Higher steady state capital requirements Reduce bank leverage and the risk of bank failure - Reduce implicit DI subsidies - Reduce the intensity of the bank funding channel Increase the share of equity in total bank liabilities: - Increase banks ’weighted average cost of funding (except when CRs are
Slide 31: Social Welfare
Social Welfare Social W elfare Gains 2 1.8 1.6 1.4 1.2 per cent 1 0.8 0.6 0.4 0.2 0 0.08 0.09 0.1 0.11 0.12 0.13 0.14 0.15 φF Individual Households Welfare function: conditional expectation of lifetime utility as of time t. Individual Welfare Gains: consumption-equivalent measure (percentage increas
Slide 32: Higher capital requirements reduce implicit subsidy to banks
Average Default Banks Default Entrepreneurs Default Households 3 2 0.44 2 0.42 1.8 1 0.4 0 1.6 0.38 0.08 0.1 0.12 0.14 0.08 0.1 0.12 0.14 0.08 0.1 0.12 0.14 φF φF φF Deposit Insurance Cost Deposit Spread Total Credit 0.06 0.4 38 0.04 37 0.2 0.02 36 0 0 35 0.08 0.1 0.12 0.14 0.08 0.1 0.12 0.14 0.08 0
Slide 33: Reduction in the social cost of bank default
GDP Household consumption 4.94 1.675 4.93 1.67 4.92 1.665 4.91 1.66 4.9 1.655 4.89 1.65 0.08 0.09 0.1 0.11 0.12 0.13 0.14 0.08 0.09 0.1 0.11 0.12 0.13 0.14 φF φF Business Investment Residential Investment 0.8 0.475 0.78 0.47 0.76 0.465 0.74 0.46 0.72 0.455 0.08 0.09 0.1 0.11 0.12 0.13 0.14 0.08 0.09
Slide 34: Remark: Initial increase in loans is due to reduction in banks' cost of funds
Commercial Loans Mortgage Loans RF(annualized) RM (annualized) 23 14.8 1.012 1.009 14.6 1.0115 1.0085 22.5 14.4 1.011 1.008 14.2 1.0105 22 1.0075 14 1.01 21.5 13.8 1.0095 0.1 0.15 0.1 0.15 0.1 0.15 0.1 0.15 φF φF φF φF Leverage Entrepreneurs Leverage Households Return Business Loans Return Mortgages
Slide 35: Spreads
Spreads Literature has focused on spread Et RtK+1 Rt - BGG: external …nance premium due to expected default costs - KM/GK: no default - spread due to binding borrowing/capital constraint - Spreads a measure of credit frictions but little room for CR policy In our model: Et RtK+1 Rt = Et RtK+1 RtF +
Slide 36: Policy exercise: Shock amplification under different capital ratios
Policy exercise: Shock ampli…cation under di¤erent capital ratios National Bank of Belgium, 20 June 2014 Kalin Nikolov (ECB) Assessing Capital Regulation in a Macroeconomic Model with Three Layers of Defaults / 54
Slide 37: How are shocks transmitted under alternative capital ratios?
How are shocks transmitted under alternative capital ratios? Policy exercise: hit the economy with one large shock The shock: a persistent collapse in asset prices (housing and business equity) Question: how do capital ratios (high vs low) a¤ect the transmission of shocks? National Bank of Belgium,
Slide 38: IRF to a 0.2% Depreciation shock (0.9 persistence)
IRF to a 0.2% Depreciation shock (0.9 persistence) Depreciation Shock GDP (Low Financial Distress) GDP (High Financial Distress) 0 0 -0.5 10.5% -0.5 Capital No Bank No Bank Requirement 10.5% Default Default Capital -1 -1 Requirement per cent per cent -1.5 8% Capital -1.5 Requirement -2 -2 8% Capital
Slide 39: Policy exercise: the impact of the CCB release at different steady state capital ratios
Policy exercise: the impact of the CCB release at di¤erent steady state capital ratios National Bank of Belgium, 20 June 2014 Kalin Nikolov (ECB) Assessing Capital Regulation in a Macroeconomic Model with Three Layers of Defaults / 54
Slide 40: Can a capital ratio reduction help in a crisis?
Can a capital ratio reduction help in a crisis? Policy exercise: hit the economy with one (or more) large shocks The shock: a persistent collapse in asset prices (housing and business equity) Question: does a reduction in the capital ratio after a bad shock help to maintain economic activity? Nation
Slide 41: Counter-cyclical Adjustment of CR
Counter-cyclical Adjustment of CR Depreciation Shock GDP (10.5% Capital Requirement) GDP (8% Capital Requirement) 0.2 0.2 0 0 -0.2 -0.2 CCB -0.4 Release -0.4 -0.6 -0.6 CCB Release -0.8 -0.8 per cent per cent -1 -1 NO CCB Release -1.2 -1.2 NO CCB -1.4 -1.4 Release -1.6 -1.6 -1.8 -1.8 -2 -2 5 10 15 20
Slide 42: Summary
Summary We have developed a macroeconomic model in which banks and borrower default take center stage Steady state e¤ects of capital requirements - eliminate bank default and the limited liability subsidy - reduction in over-borrowing and over-investment - less dead-weight costs of default Capital r
Slide 43: Conclusions
Conclusions We have developed a macroeconomic model that: - features costs and bene…ts of macroprudential policy - introduces …nancial instability in macro =) policy tool at the ECB =) available to NCBs National Bank of Belgium, 20 June 2014 Kalin Nikolov (ECB) / 54 Assessing Capital Regulation in a
Slide 44: Backup Slides
Backup Slides National Bank of Belgium, 20 June 2014 Kalin Nikolov (ECB) Assessing Capital Regulation in a Macroeconomic Model with Three Layers of Defaults / 54
Slide 45: Baseline Parameters Setting
Baseline Parameters Setting Household Preference parameters Description Parameter Value Household Preferences Patient Household discount factor βs 0.995 Impatient Household discount factor βm 0.98 Patient Household utility weight on housing vs 0.25 Impatient Household utility weight on housing vm 0.
Slide 46: Baseline Calibration
Baseline Calibration Entrepreneurial sector parameters Description Parameter Value Entrepreneurs Dividend payout ratio of entrepreneurs χe 0.05 Variance of entrepreneurial idiosyncratic shocks σ2e 0.12 Entrepreneur bankruptcy cost µe 0.3 National Bank of Belgium, 20 June 2014 Kalin Nikolov (ECB) / 5
Slide 47: Baseline Calibration
Baseline Calibration Banking sector parameters Description Parameter Value Bankers Depositor cost of bank default γ 0.1 Dividend payout ratio of bankers χe 0.05 Variance of corporate bank idiosyncratic shocks σ2F 0.0238 Variance of mortgage bank idiosyncratic shocks σ2H 0.0119 Capital requirement fo
Slide 48: Baseline Calibration
Baseline Calibration Production parameters Description Parameter Value Production parameters Capital share α 0.30 Capital depreciation rate δK 0.025 Capital adjustment cost parameter ξK 2 Housing depreciation rate δH 0.01 Housing adjustment cost parameter ξH 2 National Bank of Belgium, 20 June 2014
Slide 49: Baseline Calibration
Baseline Calibration Shock processes Description Parameter Value Shock processes TFP shock persistence ρA 0.9 Risk shock persistence ρσ 0.9 Depreciation shock persistence ρd 0.9 Housing demand persistence ρD 0.9 National Bank of Belgium, 20 June 2014 Kalin Nikolov (ECB) / 54 Assessing Capital Regula
Slide 50: IRFs to Other shocks
IRFs to Other shocks GDP Productivity Shock Depreciation Shock Bank Risk Shock 0 1 0 -0.5 0 per cent -0.5 per cent per cent -1 -1 -1 -1.5 -2 -2 -3 -1.5 5 10 15 20 25 30 35 40 5 10 15 20 25 30 35 40 5 10 15 20 25 30 35 40 quarters Total Credit quarters Productivity Shock Depreciation Shock Bank Risk
Slide 51: IRFs: Productivity Shock
IRFs: Productivity Shock Productivity Shock GDP Capital Investments Price of Capital Default Entrepreneurs 0 0 0.5 1 -1 0 0.8 -0.5 -2 -0.5 0.6 per cent per cent per cent per cent -1 -3 -1 0.4 -1.5 -4 -1.5 0.2 -2 -5 -2 0 5 10 15 5 10 15 5 10 15 5 10 15 quarters quarters quarters quarters Households C
Slide 52: Borrowers Default and Bank Capital Channel
Productivity Shock Banker NetWorth Mortgage loans Business loans 0 0 0 -0.5 -1 per cent per cent per cent -1 -0.5 -2 -1.5 -3 -2 -1 5 10 15 5 10 15 5 10 15 quarters quarters quarters Equity Return of Banks Mortgages Interest Rate Business Loans Interest Rate 5 1 1.5 1 0.5 per cent per cent per cent 0
Slide 53: Counter-cyclical Adjustment of High Capital Requirements
Counter-cyclical Adjustment of High Capital Requirements GDP Productivity Shock Depreciation Shock Bank Risk Shock 0 0.5 0 0 -0.01 per cent -0.5 per cent per cent -0.5 -0.02 -1 -1 -0.03 -1.5 -1.5 -0.04 5 10 15 20 25 30 35 40 5 10 15 20 25 30 35 40 5 10 15 20 25 30 35 40 quarters Total Credit quarter
Slide 54: Counter-cyclical Adjustment of Low Capital Requirements
Counter-cyclical Adjustment of Low Capital Requirements GDP Productivity Shock Depreciation Shock Bank Risk Shock 0 1 0 -0.5 -0.2 0 per cent per cent per cent -1 -0.4 -1 -1.5 -0.6 -2 -2 -0.8 5 10 15 20 25 30 35 40 5 10 15 20 25 30 35 40 5 10 15 20 25 30 35 40 quarters Total Credit quarters Productiv
Slide 55: Kalin Nikolov (ECB) National Bank of Belgium, 20 June 2014 Assessing Capital Regulation in
National Bank of Belgium, 20 June 2014 Kalin Nikolov (ECB) Assessing Capital Regulation in a Macroeconomic Model with Three Layers of Defaults / 54
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