A value maximizing group could improve its economic position by discarding a subsidiary with very negative equity. Walkaway risk is unlikely for a going-concern group because of important franchise, market, and reputational pressures, and has been very rare in the modern era.
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However, host regulators worry that group support could falter under the legal conditions of bank resolution, which may require resolution authorities to consider walkaway options if the group fails. They rely on the availability of the central reserve, which could be impaired by the actions of more aggressive hosts.
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Endgame Considerations: The stress on hosts will be highest when the group is nearing failure. At this point, further support from the top will be unreliable at best, so hosts are likely to want sufficient tangible prepositioned resources most at this point. These resources will be important to a host for two reasons: for assurance against walkaway in resolution; and for locally resourced protection against poor resolution execution by the home. Credible host arrangements will need to address all four elements to achieve a sufficient degree of certainty.
It will be impossible to achieve absolute certainty — we are not attempting the impossible task of reducing bank risk to zero. But the overall package should achieve at least the same level of safety as a local stand-alone bank of similar size under domestic capital rules. Our model bank analysis shows that strictly local i. Hosts can achieve significantly better risk outcomes with lower amounts of local capital if the regime is built with strong, resilient group support distributed under transparent rules.
Capital Minimum: Basel standards require a minimum equity of 4. We accept this as a minimum for both the group and for each major subsidiary, and assume that any breach would trigger a failure event. Going-Concern Buffers: Most common equity at large banking groups is now driven by the numerous buffer requirements capital conservation buffer, G-SIB buffer, etc. These increase the effective requirements for capital far beyond the official Basel minimum. This provides a resource that can be drawn down to absorb losses in the case of a future downturn and is the primary capital resource we modeled in our analysis, up to the capital minimum threshold.
Resolution Funding GLAC 27 : Large amounts of subordinated debt have been issued to provide a prepositioned resource for bank resolution. The outcome is similar to Chapter 11 reorganization, but with more preplanning and much faster. In the U. This is ample to restore group capital, even under tough assumptions and scale conditions.
Several other key jurisdictions have achieved similar levels of resourcing. These resource pools for buffers and GLAC are massive. But there has been little discussion on how best to deploy them across a group to address the twin challenges of resilience in going concern and credibility in resolution. We propose to utilize capital buffers — resources designed for drawdown in adverse conditions — as the natural tool for resilience and recovery.
For SPOE firms, these buffers should be housed in a central reserve to avoid misallocation risk and avoid unnecessary failures. In contrast, capital minimums and GLAC are designed to ensure acceptable endgame results. They are naturally less mobile and therefore prime candidates for prepositioning. In the 10 years since the financial crisis hit, extensive reforms have rebuilt the foundations of banking.
Ring-fencing is shorthand for local control around certain assets or activities, typically requiring dedicated pools of local capital and liquidity. It harms competition, economic resilience, and growth. In a recent working paper, we developed an analytic framework to assess the effects of ring-fencing for a simple model bank.
While precise quantification naturally depends on specific assumptions, the analysis suggests that the rise of ring-fencing is a major issue and could be at the center of the next crisis. The development of post-crisis resolution architecture forces a new look at home-host relations given the stark differences for subsidiary support between the multiple-points-of-entry MPOE and single-point-of-entry SPOE frameworks see Box 1. It also forces us to consider how best to satisfy the twin objectives of resilient recovery and credible resolution.
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However, the new resolution framework also gives us a large pool of subordinated total loss-absorbing capacity TLAC 4 — resources that could be harnessed to solve the problems raised by ring-fencing. Our framework tries to balance the need for certainty for host jurisdictions subsidiaries with the need for flexibility for the home jurisdiction parent. A rough outline of the framework includes:.
Moderate capital prepositioning to protect hosts. Top-up rules to maintain host safety perhaps via binding contracts to support needy entities, like the support agreements used in U.
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Prepositioning should mostly be in subordinated, gone-concern TLAC, plus a minimum equity requirement but no local equity buffers. Equity buffers make up perhaps two-thirds of the total equity layer today.
Before the crisis, regulators were fairly comfortable hosting international banks, at least from well-run jurisdictions. Competent home-country regulators would supervise the group and address any problems that emerged. Those assumptions held up well for many years and supported international growth, diversification, and competition. But this implicit home-host trust was shattered by the crash-landing failures of major banks such as Lehman Brothers and Fortis in , which imposed surprise losses on host countries. In response, many jurisdictions moved to protect national interests and adopt stringent controls around local subsidiaries, including capital restrictions, liquidity restrictions, and operational support requirements.
They decided to ring-fence early, far in advance of potential stress conditions. Indeed, ex ante ring-fencing has become widespread even within the EU banking union, 7 and Brexit will likely create further barriers. These proposals have emerged as national initiatives, without a substantial international debate or a global framework. As these policies proliferate, they threaten to undermine bank resilience see Figure 1 for a schematic view of this shift.
Our analysis from here will focus specifically on geographic ring-fencing and the effect of capital Balkanization. But does ring-fencing actually make banks safer? A sole ring-fencer can gain an advantage. There is a large risk reduction for a first mover if other jurisdictions do not match that decision.
The first ring-fencer benefits from both a local capital and b the ability to tap a large central reserve see case 2a, Figure 2.https://brabaltiobcom.tk
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However, trapping capital for one entity reduces resources for others, and their risks begin to increase. In the real world, other jurisdictions will respond — typically with countervailing ring-fencing policies to improve their own position. This shrinks the pooled central reserve further, harming the resilience of the group.
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Studies using token economies have been undertaken in prison settings before, although the vast majority of experiments use student recruits. The game is more than academic. Researchers use it to probe risk, decision-making under strategic uncertainty, and how social factors mediate economic decisions.
Detective shows generally show only the simultaneous version of the game — one suspect has no idea what the other does. But economists add a sequential version in which Player 2 knows the choice of Player 1. First, female prisoners and students played simultaneously, choosing letters and earning points that were translated into Euros afterward. Their choices then were randomly matched with others and analyzed. If each player chose A, both would earn seven points. But by unilateral betrayal BA and AB , either player could earn nine and leave the other with one.
Mutual betrayal BB , however, would net three points apiece.