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Internationalization, foreign complexity and systemic risk: Evidence from European banks

Journal: Journal of Financial Stability

Date: 2021

Author: Yassine Bakkar, Annick Pamen Nyola

Abstract:
Using a novel cross-European dataset on bank internationalization, the paper accounts for organizational and geographic complexity and evaluates its impact on systemic risk and how both the 2008-09 global financial crisis and the 2010-11 European sovereign debt crisis might have modified such an impact. Ahead of the crisis (2005-07), results suggest that bank complexity materially reduces systemic risk and enhances stability, as it encourages banks to take on more diversified risks. While such a relation is inverted during the crisis (2008-11) and after the crisis (2012-13), consistent with the view that, during distress times, international banks have less ability to monitor cross-border risks. Further evidence show that, regardless of the period, the effect of complexity on systemic risk is accentuated for 'too-big-too-fail' banks and banks with strong activity diversity. Conversely, complex banks with merger-acquisition history and banks operating networks of foreign branches mitigate systemic risk during the acute crisis and the later stage of the crisis, respectively. The results are robust to the use of alternative measures of systemic risk and complexity, and numerous additional tests. Findings bear critical policy implications for financial regulations.

Link: Google Scholar

Background and Context

Research Focus

This study examines how bank complexity through international operations affects systemic risk in European banks before, during, and after the 2008-2009 global financial crisis and 2010-2011 European sovereign debt crisis.

Data Sample

Analysis covers 105 publicly traded banks from 15 European countries over 2005-2013, using hand-collected data on banks' foreign subsidiaries and branch networks.

Methodology

The study measures bank complexity through organizational structure (subsidiaries/branches) and geographic dispersion, while systemic risk is assessed through multiple metrics including MES, SRISK, and ΔCoVaR.

Decline in Foreign Subsidiaries During Crisis Periods

  • Shows dramatic decline in foreign subsidiaries from 1,838 pre-crisis to 484 post-crisis
  • Demonstrates significant retrenchment in international banking operations
  • Reflects banks' strategic response to financial crisis pressures

Geographic Distribution of Foreign Subsidiaries by Region (2011-2013)

  • European banks maintain strongest presence in their home region
  • North America represents second largest concentration of subsidiaries
  • Shows uneven global distribution of banking operations

Impact of Complexity on Systemic Risk Across Time Periods

  • Shows significant increase in systemic risk during crisis periods
  • Risk levels remained elevated post-crisis
  • Demonstrates lasting impact of financial crisis on bank stability

Bank Size Effect on Complexity-Risk Relationship

  • Large banks show significantly higher systemic risk during crisis
  • Size amplifies the relationship between complexity and risk
  • Demonstrates importance of bank size in systemic risk assessment

Geographic Complexity Impact on Bank Stability

  • Banks operating both subsidiaries and branches show highest complexity
  • Branch-only operations demonstrate lowest complexity levels
  • Reveals relationship between organizational structure and complexity

Contribution and Implications

  • Bank complexity reduces systemic risk during normal times but increases it during financial crises
  • The findings support implementation of systemic risk-based capital buffers for complex banks
  • Results suggest need for differentiated regulatory approaches based on bank size and organizational structure

Data Sources

  • Subsidiaries trend chart: Based on Table 1 showing evolution of foreign subsidiaries
  • Regional distribution chart: Based on Table 2 showing geographic distribution of subsidiaries
  • Systemic risk chart: Based on Table 3 showing MES statistics across periods
  • Size effect chart: Based on Table 7 showing differential effects by bank size
  • Complexity impact chart: Based on Table C1 showing organizational structure statistics