Marcella Lucchetta

Systemic Risks and the Macroeconomy

This paper presents a modeling framework that delivers joint forecasts of indicators of systemic real risk and systemic financial risk, as well as stress-tests of these indicators as impulse responses to structural shocks identified by standard macroeconomic and banking theory. This framework is implemented using large sets of quarterly time series of indicators of financial and real activity for the G-7 economies for the 1980Q1-2009Q3 period. We obtain two main results. First, there is evidence of out-of sample forecasting power for tail risk realizations of real activity for several countries, suggesting the usefulness of the model as a risk monitoring tool. Second, in all countries aggregate demand shocks are the main drivers of the real cycle, and bank credit demand shocks are the main drivers of the bank lending cycle. These results challenge the common wisdom that constraints in the aggregate supply of credit have been a key driver of the sharp downturn in real activity experienced by the G-7 economies in 2008Q4- 2009Q1.

Capital Regulation, Liquidity Requirements and Taxation in a Dynamic Model of Banking

This paper studies the impact of bank regulation and taxation in a dynamic model where banks are exposed to credit and liquidity risk and can resolve financial distress in three costly forms: bond issuance, equity issuance or fire sales. We find an inverted U-shaped relationship between capital requirements and bank lending, efficiency, and welfare, with their benefits turning into costs beyond a certain threshold. By contrast, liquidity requirements reduce lending, efficiency and welfare significantly. On taxation, corporate income taxes generate higher government revenues and entail lower efficiency and welfare costs than taxes on non-deposit liabilities.

Financial Intermediation, Competition, and Risk: A General Equilibrium Exposition

We study a simple general equilibrium model in which investment in a risky technology is subject to moral hazard and banks can extract market power rents. We show that more bank competition results in lower economy-wide risk, lower bank capital ratios, more efficient production plans and Pareto-ranked real allocations. Perfect competition supports a second best allocation and optimal levels of bank risk and capitalization. These results are at variance with those obtained by a large literature that has studied a similar environment in partial equilibrium. Importantly, they are empirically relevant, and demonstrate the need of general equilibrium modeling to design financial policies aimed at attaining socially optimal levels of systemic risk in the economy.

Systemic Real and Financial Risks: Measurement, Forecasting, and Stress Testing

This paper formulates a novel modeling framework that delivers: (a) forecasts of indicators of systemic real risk and systemic financial risk based on density forecasts of indicators of real activity and financial health; (b) stress-tests as measures of the dynamics of responses of systemic risk indicators to structural shocks identified by standard macroeconomic and banking theory. Using a large number of quarterly time series of the G-7 economies in 1980Q1-2010Q2, we show that the model exhibits significant out-of sample forecasting power for tail real and financial risk realizations, and that stress testing provides useful early warnings on the build-up of real and financial vulnerabilities.

Bank Competition and Financial Stability: A General Equilibrium Exposition

We study the welfare properties of a general equilibrium banking model with moral hazard that encompasses incentive mechanisms for bank risk-taking studied in a large partial equilibrium literature. We show that competitive equilibriums maximize welfare and yield an optimal level of banks’ risk of failure. This result holds even though the risk of failure of competitive banks is higher than that of banks enjoying monopoly rents, and is robust to the introduction of social costs of bank failures. In this model, there is no trade-off between bank competition and financial stability.

Emerging Stock Premia: Do Industries Matter?

This paper studies the dynamics of emerging excess returns in a industry-by-industry context. Differently from the recent financial literature, which mainly focuses on �total market indexes�, we perform a standard ex-post empirical analysis aimed at capturing the industries� contribution to country stock performances. We obtain three key empirical findings. First, at industry level, we confirm the �high performance-high volatile nature� as well as the time-varying component of emerging excess returns. Second, at country level and in a dynamic context, we detect those industries that mainly contribute to the presence of emerging stock premia. Third, we show that some industries are much more exposed to global factors than others. We argue that these results display relevant implications for portfolio diversification and reflect consumption smoothing motive

Bank Market Structure, Systemic Risk, and Interbank Market Breakdowns

This paper explores theoretically the implications of bank market structure and banking system risks concentration for the functioning of interbank markets. It employs a simple model where banks are exposed to both credit and liquidity risk, there is no asymmetric information, no market power, no friction in secondary markets and deposit contracts are fully contingent. We show that (a) the concentration of risks induced by changes in bank market structure makes interbank market breakdowns more likely; (b) welfare monotonically decreases in risk concentration; and (c) risk concentration and a high probability of interbank market breakdowns can be driven by risk control diseconomies of scale and scope and increases in financial firms’ size. As banking systems become more concentrated, improvement of risk control technologies in financial institutions and in regulatory bodies appear as important as other policies considered in the literature to minimize the probability of interbank market breakdowns.

The Bank Tailored Integrated Rating

We develop a banks specific integrated rating, tailored incorporating the various heterogeneity dimensions characterizing financial institutions (see Mantovani et al., Int Res J Appl Finance IV:458–489, 2013 and Mantovani et al., J Bus Econ Finance 3:18–49, 2014 regarding the heterogeneity risk analysis in corporate firms), named bank tailored integrated rating (BTIR). The approach is inherently coherent with the challenging frontier of forecasting tail risk in financial markets (De Nicolo and Lucchetta, J Appl Econ 32(1):159–170, 2017) since it considers the downside risk in the theoretical framework. The innovation consists in using the integrated rating (IR) with the pre-selection of the variables through a statistical procedure that takes into account the characteristics of risk and greater heterogeneity of the banks. A Vector Autoregressive Model (VAR) is only a first simple application proposal.

Dynamic Bank Capital Regulation in Equilibrium

We study optimal bank regulation in an economy with aggregate uncertainty. Bank liabilities are used as “money” and hence earn lower returns than equity. In laissez faire equilibrium, banks maximize market value, trading off the funding advantage of debt against the risk of costly default. The capital structure is not socially optimal because external costs of distress are not internalized by the banks. The constrained efficient allocation is characterized as the solution to a planner’s problem. Efficient regulation is procyclical, but countercyclical relative to laissez faire. We show that simple leverage constraints can get the decentralized economy close to the constrained efficient outcome.

Systematic risk, bank moral hazard, and bailouts

This paper studies the relationship between government bailouts and bank risk taking. We show that the impact of government bailouts (in the form of liquidity injections) on bank risk taking, depends on the exogenous level of systematic risk. In a model where the output follows a geometric Brownian motion and the government guarantees the bank liabilities, we find that: 1) per se more generous bailouts may or may not induce banks to take on more risk depending on systematic risk; in particular if the systematic risk is high (low), a more generous bailout decreases (increases) bank risk taking; 2) the optimal liquidity policy itself depends on systematic risk; 3) When systematic risk is taken into consideration, the relationship between bailouts and bank risk taking is positive, for low systematic risk and when high systematic risk induces tight liquidity policy, and could be negative when high systematic risk induces a very tight liquidity policy, which, in turn, could induce high risk taking.