A Return of the Investment Banks?

February 12, 2009

A Return of the Investment Banks?

Not likely, or at least not very desirable, according to a new working paper from Asli Demirguc-Kunt and Harry Huizinga. In Bank Activity and Funding Strategies, the authors look at an international sample of 1,334 banks to get a handle on the risk-return tradeoff of various activity and funding strategies. Their findings suggest that the failure of investment banks in the U.S. was not really a statistical outlier or a once-in-a-century event:

The main contribution of this paper is to provide evidence on what bank income and funding strategies perform well in terms of producing profitable and stable banks. In particular, we examine how a bank’s income and funding mixes affect the rate of return on its assets and Z-score or distance to default. Our basic regressions suggest that at low levels of non-interest income and non-deposit funding, there may be some risk diversification benefits of increasing these shares, although at higher levels of non-interest income and non-deposit funding shares, further increases result in higher bank risk...

...The evidence presented in paper suggests that traditional banks – with a heavy reliance on interest-income generating and deposit funding – are safer than banks that go very far in the direction of non-interest income generation and funding through the wholesale capital market. Our results provide a strong indication that banking strategies that rely preponderantly on non-interest income or non-deposit funding are indeed very risky.

Figure 2: Trend of the fee income shareFee income

(The fee income share is the share of non-interest income in total operating income. This figure displays the trend of the fee income share from 1999 to 2007. The fee income share data are yearly averages. The data are from Bankscope.)
Comments (1) E-mail Digg Bookmark Facebook

Posted by Ryan Hahn on February 12, 2009 | Permalink
Increasing University Enrollment as Crisis Response

My friends in economics departments around the United States tell me that applications to PhD programs have trippled this year relative to last year. Some law schools have also reported a large increase in applications. This is because the unfolding crisis is putting lots of young people - particularly Wall Street types - out of jobs. What better time to get a graduate degree?

Even business schools report higher demand, even though one wonders what they really teach students there. Some "modesty" courses may be in order.

Increasing university enrollment is a good anti-cyclical device. In a country like the United States, this happens naturally as people with dimmed work prospects upgrade their skills. In smaller countries, this may be trickier as universities may be less prepared to meet increasing demand. Especially if they depend on government subsidies for financing a share of their operations. Hence, the need for a possible public policy.

Georgi Angelov, a senior economist at the Open Society Institute in Sofia, and I have just written a short paper on this topic, using data for Bulgaria as an example. The policy proposal is relevant for any country, however.

We develop a proposal for expanding university enrollment in Bulgaria by 30,000 students (or about 12% over 2008 enrollment). This is done by creating a student loan program guaranteed by the government. Student loans, offered competitively by commercial banks, would cover up to 50% of the cost of education. The remainder is covered by direct government subsidies (as is currently the case) and household income. The proposal is budget neutral – the government spends as much money on university education as in previous years.

Continue reading "Increasing University Enrollment as Crisis Response" »

Posted by Simeon Djankov on February 12, 2009 in Eastern Europe | Permalink