Global Liquidity

Hyun Song Shin

September 2011
Princeton Initiative in Macro, Money and Finance
Three Themes
Banking sector as driver of global nancial conditions
Global banks (esp. European global banks) as transmission channel of
global liquidity conditions
US Dollar as currency underpinning global banking system
1
Mapping Global Liquidity
Consequences of global liquidity for United States
(Global ow of funds perspective)
Consequences of global liquidity for Europe (very briey...)
Consequences of global liquidity for emerging/developing economies
2
Corporate Finance of Banking
A L
Assets
Equity
Debt
3
A L
Assets
Equity
Debt
A L
Assets
Equity
Debt
4
A L
Assets
Equity
Debt
A L
Assets
Equity
Debt
5
Asset growth
Leverage
growth
Slope =1
0
A
B
6
Asset growth
Leverage
growth
Slope =1
Constant equity
growth of g
g
0
Constant equity
line
7
1998-3
1998-4
2007-3
2007-4
-
.
2
-
.
1
0
.
1
.
2
T
o
t
a
l

A
s
s
e
t

G
r
o
w
t
h
-.2 -.1 0 .1 .2
Leverage Growth
Lehman Brothers
1998-3
1998-4
2007-3
2007-4
-
.
2
-
.
1
0
.
1
.
2
T
o
t
a
l

A
s
s
e
t

G
r
o
w
t
h
-.2 -.1 0 .1 .2
Leverage Growth
Merrill Lynch
1998-3
1998-4
2007-3
2007-4
-
.
2
-
.
1
0
.
1
.
2
T
o
t
a
l

A
s
s
e
t

G
r
o
w
t
h
-.2 -.1 0 .1 .2
Leverage Growth
Morgan Stanley
1998-3
1998-4
2007-3
2007-4
-
.
1
0
.
1
.
2
T
o
t
a
l

A
s
s
e
t

G
r
o
w
t
h
-.2 -.1 0 .1 .2
Leverage Growth
Bear Sterns
2007-3
2007-4
-
.
0
5
0
.
0
5
.
1
T
o
t
a
l

A
s
s
e
t

G
r
o
w
t
h
-.15 -.1 -.05 0 .05 .1
Leverage Growth
Goldman Sachs
1998-3
1998-4
-
.
3
-
.
2
-
.
1
0
.
1
T
o
t
a
l

A
s
s
e
t

G
r
o
w
t
h
-.2 -.1 0 .1 .2
Leverage Growth
Citigroup Markets 98-04
Total Assets and Leverage
8
1998-4
2007-3
2007-4
2008-1
-
.
2
-
.
1
0
.
1
.
2
T
o
t
a
l

A
s
s
e
t
s

(
l
o
g

c
h
a
n
g
e
)
-.2 -.1 0 .1 .2
Leverage (log change)
Asset weighted, 1992Q3-2008Q1, Source: SEC
Leverage and Total Assets Growth
9
What Drives the Leverage Cycle?
Value-at-Risk (VaR) is approximate worst case loss - smallest non-negative
\ such that
Prob ( <
0
\ ) c for small c 0
Value-at-Risk Rule (Basel). Maintain equity 1 to limit failure prob to c
1 = \ =
is Unit VaR (Value-at-Risk per dollar of assets). Leverage 1 satises
1

1
=
1

10
Empirical implication:
ln1 = ln
so that
ln1
|
ln1
|1
= (ln
|
ln
|1
) (*)
Scatter chart of leverage changes against unit VaR changes should have
slope 1.
Evidence?
11
2007-Q3
2007-Q4
2008-Q1
2008-Q2
2008-Q3
2008-Q4
2009-Q1
-0.6
-0.4
-0.2
0
0.2
0.4
0.6
0.8
1
-1 -0.8 -0.6 -0.4 -0.2 0 0.2 0.4
Leverage Growth
U
n
i
t

V
a
R

G
r
o
w
t
h
Figure 1: Five (then four, three, then two) Wall Street banks, Adrian and
Shin (2011) Procyclical Leverage and Value-at-Risk
12
-5
0
5
10
15
20
D
e
c
-
0
1
J
u
n
-
0
2
D
e
c
-
0
2
J
u
n
-
0
3
D
e
c
-
0
3
J
u
n
-
0
4
D
e
c
-
0
4
J
u
n
-
0
5
D
e
c
-
0
5
J
u
n
-
0
6
D
e
c
-
0
6
J
u
n
-
0
7
D
e
c
-
0
7
J
u
n
-
0
8
D
e
c
-
0
8
J
u
n
-
0
9
D
e
c
-
0
9
J
u
n
-
1
0
D
e
c
-
1
0
P
r
e
-
C
r
i
s
i
s

S
t
a
n
d
a
r
d

D
e
v
i
a
t
i
o
n
s
Unit VaR
VaR/E
Leverage
Figure 2: Deleveraging keeps VaR in check: Adrian and Shin (2011)
Procyclical Leverage and Value-at-Risk
13
-5
0
5
10
15
20
D
e
c
-
0
1
J
u
n
-
0
2
D
e
c
-
0
2
J
u
n
-
0
3
D
e
c
-
0
3
J
u
n
-
0
4
D
e
c
-
0
4
J
u
n
-
0
5
D
e
c
-
0
5
J
u
n
-
0
6
D
e
c
-
0
6
J
u
n
-
0
7
D
e
c
-
0
7
J
u
n
-
0
8
D
e
c
-
0
8
J
u
n
-
0
9
D
e
c
-
0
9
J
u
n
-
1
0
D
e
c
-
1
0
P
r
e
-
C
r
i
s
i
s

S
t
a
n
d
a
r
d

D
e
v
i
a
t
i
o
n
s
Unit VaR
Implied
Vol
CDS
Spread
Figure 3: Unit VaR tracks VIX with accounting lag: Adrian and Shin (2011)
Procyclical Leverage and Value-at-Risk
14
0.0
0.2
0.4
0.6
0.8
1.0
1.2
1.4
1
9
9
2
1
9
9
3
1
9
9
4
1
9
9
5
1
9
9
6
1
9
9
7
1
9
9
8
1
9
9
9
2
0
0
0
2
0
0
1
2
0
0
2
2
0
0
3
2
0
0
4
2
0
0
5
2
0
0
6
2
0
0
7
T
r
i
l
l
i
o
n

p
o
u
n
d
s
Equity
Other Liabilities
Total MMF
funding
Customer
Deposits
Figure 4: Total Liabilities of Barclays (1992 - 2007) (Source: Bankscope)
15
0.0
0.2
0.4
0.6
0.8
1.0
1.2
1.4
1
9
9
2
1
9
9
3
1
9
9
4
1
9
9
5
1
9
9
6
1
9
9
7
1
9
9
8
1
9
9
9
2
0
0
0
2
0
0
1
2
0
0
2
2
0
0
3
2
0
0
4
2
0
0
5
2
0
0
6
2
0
0
7
T
r
i
l
l
i
o
n

p
o
u
n
d
s
Total Assets
Risk-Weighted
Assets
Figure 5: Barclays, risk-weighted assets and total assets (Source:
Bankscope)
16
0.0%
2.0%
4.0%
6.0%
8.0%
10.0%
12.0%
14.0%
16.0%
18.0%
1
9
9
2
1
9
9
4
1
9
9
6
1
9
9
8
2
0
0
0
2
0
0
2
2
0
0
4
2
0
0
6
2
0
0
8
2
0
1
0
Total
Capital
Ratio
Tier 1
Ratio
Equity/
Total
Assets
Figure 6: Barclays, capital ratios (Source: Bankscope)
17
0.0
0.5
1.0
1.5
2.0
2.5
1
9
9
9
2
0
0
0
2
0
0
1
2
0
0
2
2
0
0
3
2
0
0
4
2
0
0
5
2
0
0
6
2
0
0
7
2
0
0
8
2
0
0
9
2
0
1
0
T
r
i
l
l
i
o
n

E
u
r
o
s
Equity
Other Liabilities
Total Customer
Deposits
Figure 7: BNP Paribas total liabilities (Source: Bankscope)
18
0.0
0.5
1.0
1.5
2.0
2.5
2
0
0
5
2
0
0
6
2
0
0
7
2
0
0
8
2
0
0
9
T
r
i
l
l
i
o
n

E
u
r
o
s
Total Assets
Risk-
Weighted
Assets
Figure 8: BNP Paribas risk-weighted assets and total assets (Source:
Bankscope)
19
0.0%
2.0%
4.0%
6.0%
8.0%
10.0%
12.0%
14.0%
16.0%
1
9
9
9
2
0
0
0
2
0
0
1
2
0
0
2
2
0
0
3
2
0
0
4
2
0
0
5
2
0
0
6
2
0
0
7
2
0
0
8
2
0
0
9
2
0
1
0
Total
Capital
Ratio
Tier 1 Ratio
Equity/Total
Assets
Figure 9: BNP Paribas capital ratios (Source: Bankscope)
20
Credit Supply
Notation for balance sheet of bank
C
E
f 1
r 1
L
Bank
21
Bank Credit Supply and Value-at-Risk
L f 1

Density
over
repayments
C r 1
0
Y w
Probability density over asset realizations
22
Turning Credit Risk Model on Its Head
Turn credit risk model on its head and think of it as credit supply model
Fix 1. Determine credit supply C
S
C
S
=
1
1
1+:
1+}
,(j, c, -)
, , (0, 1)
, is ratio of notional assets to notional debt
[, is normalized leverage measure, with , (0, 1)]
23
BIS Banking Statistics
BIS locational banking statistics
Classication based on residence
Branches/subsidiaries of global banks classied under host country
Consistent with balance of payments and national income statistics
Cross-border claims
BIS consolidated banking statistics
Classication based on nationality of parent
Foreign claims = cross-border claims + local claims
International claims = cross-border claims + local claims in foreign
currency
24
-12.0
-10.0
-8.0
-6.0
-4.0
-2.0
0.0
2.0
4.0
6.0
8.0
10.0
12.0
M
a
r
.
1
9
9
9
D
e
c
.
1
9
9
9
S
e
p
.
2
0
0
0
J
u
n
.
2
0
0
1
M
a
r
.
2
0
0
2
D
e
c
.
2
0
0
2
S
e
p
.
2
0
0
3
J
u
n
.
2
0
0
4
M
a
r
.
2
0
0
5
D
e
c
.
2
0
0
5
S
e
p
.
2
0
0
6
J
u
n
.
2
0
0
7
M
a
r
.
2
0
0
8
D
e
c
.
2
0
0
8
S
e
p
.
2
0
0
9
J
u
n
.
2
0
1
0
T
r
i
l
l
i
o
n

D
o
l
l
a
r
s
U.S. dollar assets of
banks outside US
Euro assets of banks
outside eurozone
Sterling assets of
banks outside UK
Yen assets of banks
outside J apan
Yen liabilities of banks
outside J apan
Sterling liabilities of
banks outside UK
Euro liabilities of banks
outside eurozone
U.S. dollar liabilities of
banks outside US
Figure 10: Cross-border foreign currency claims of BIS reporting banks by
currency (Source: BIS locational banking statistics, Table 5A)
25
2008Q1
2.0
3.0
4.0
5.0
6.0
7.0
8.0
9.0
10.0
11.0
1
9
9
9
Q
1
2
0
0
0
Q
2
2
0
0
1
Q
3
2
0
0
2
Q
4
2
0
0
4
Q
1
2
0
0
5
Q
2
2
0
0
6
Q
3
2
0
0
7
Q
4
2
0
0
9
Q
1
2
0
1
0
Q
2
Trillion
Dollars
US chartered
commercial
banks' total
financial
assets
US dollar
assets of
banks outside
US
Figure 11: US dollar cross-border foreign currency claims and US commercial
bank total assets (Source: Flow of Funds, Federal Reserve and BIS
locational banking statistics, Table 5A)
26
Figure 12: US Dollar-denominated assets and liabilities of euro area banks
(Source: ECB Financial Stability Review, June 2011, p. 102)
27
US
Households
US
Borrowers
US
Banking
Sector
European
Global
Banks
border
Wholesale
funding market
Shadow banking
system
Figure 13: European global banks add intermediation capacity for
connecting US savers and borrowers
28
0.0
1.0
2.0
3.0
4.0
5.0
6.0
2
0
0
5
-
Q
2
2
0
0
5
-
Q
4
2
0
0
6
-
Q
2
2
0
0
6
-
Q
4
2
0
0
7
-
Q
2
2
0
0
7
-
Q
4
2
0
0
8
-
Q
2
2
0
0
8
-
Q
4
2
0
0
9
-
Q
2
2
0
0
9
-
Q
4
2
0
1
0
-
Q
2
2
0
1
0
-
Q
4
T
r
i
l
l
i
o
n

D
o
l
l
a
r
s
Other European BIS
reporting countries
Switzerland
United Kingdom
France
Germany
Figure 14: International claims of European BIS reporting banks on US
counterparties (Source: BIS consolidated banking statistics, Table 9D)
29
0
50
100
150
200
250
300
350
400
450
D
e
c
-
0
7
F
e
b
-
0
8
A
p
r
-
0
8
J
u
n
-
0
8
A
u
g
-
0
8
O
c
t
-
0
8
D
e
c
-
0
8
F
e
b
-
0
9
A
p
r
-
0
9
J
u
n
-
0
9
A
u
g
-
0
9
O
c
t
-
0
9
D
e
c
-
0
9
F
e
b
-
1
0
B
i
l
l
i
o
n

D
o
l
l
a
r
s
J apan
Canada
Ireland
Switzerland
Netherlands
France
Germany
UK
USA
Figure 15: Claims outstanding on Federal Reserve Term Auction Facility
(TAF) on US and non-US banks (Source: Federal Reserve disclosures on
TAF)
30
0
50
100
150
200
250
D
e
c
-
0
7
F
e
b
-
0
8
A
p
r
-
0
8
J
u
n
-
0
8
A
u
g
-
0
8
O
c
t
-
0
8
D
e
c
-
0
8
F
e
b
-
0
9
A
p
r
-
0
9
J
u
n
-
0
9
A
u
g
-
0
9
O
c
t
-
0
9
D
e
c
-
0
9
F
e
b
-
1
0
B
i
l
l
i
o
n

D
o
l
l
a
r
s
J apan
Canada
Ireland
Switzerland
Netherlands
France
Germany
UK
Figure 16: Claims outstanding on Federal Reserve Term Auction Facility
(TAF) on non-US banks (Source: Federal Reserve disclosures on TAF)
31
0
50
100
150
200
250
D
e
c
-
0
7
F
e
b
-
0
8
A
p
r
-
0
8
J
u
n
-
0
8
A
u
g
-
0
8
O
c
t
-
0
8
D
e
c
-
0
8
F
e
b
-
0
9
A
p
r
-
0
9
J
u
n
-
0
9
A
u
g
-
0
9
O
c
t
-
0
9
D
e
c
-
0
9
F
e
b
-
1
0
B
i
l
l
i
o
n

D
o
l
l
a
r
s
DZ BK Deutsche
Bayerische HV
HSH Nordbank
WestLB
Commerzbank
Bayerische LB
Unicredit
Deutsche BK
Dresdner
Depfa
Credit Indus et Comm
Dexia
BNP Paribas
Natixis
Societe Generale
UBS
Fortis
Mizuho Corporate
BK Tokyo-Mitsubishi
Sumitomo Group
Norinchukin
Arab BKG Corp
Allied Irish
BK of Nova Scotia
Toronto Dominion BK
Royal BK of Canada
Standard Chartered
BK of Scotland
RBS
Barclays
Figure 17: Top 30 claims outstanding on Federal Reserve Term Auction
Facility (TAF) on non-US banks (Source: Federal Reserve disclosures on
TAF)
32
31-Dec-08
30-J un-08
-100
0
100
200
300
400
500
600
700
800
900
M
a
r
-
8
5
S
e
p
-
8
6
M
a
r
-
8
8
S
e
p
-
8
9
M
a
r
-
9
1
S
e
p
-
9
2
M
a
r
-
9
4
S
e
p
-
9
5
M
a
r
-
9
7
S
e
p
-
9
8
M
a
r
-
0
0
S
e
p
-
0
1
M
a
r
-
0
3
S
e
p
-
0
4
M
a
r
-
0
6
S
e
p
-
0
7
M
a
r
-
0
9
S
e
p
-
1
0
B
i
l
l
i
o
n

D
o
l
l
a
r
s
Interoffice Assets of Foreign
Banks in US
Net Interoffice Assets of
Foreign Banks in US
Figure 18: Interoce assets of foreign banks in the United States (Source:
Federal Reserve, series on Assets and Liabilities of U.S. Branches and
Agencies of Foreign Banks)
33
InterofficeAssetsofForeignBanksinJapan
Feb07

50
100
150
200
250
A
p
r
-
8
7
J
u
n
-
8
8
A
u
g
-
8
9
O
c
t
-
9
0
D
e
c
-
9
1
F
e
b
-
9
3
A
p
r
-
9
4
J
u
n
-
9
5
A
u
g
-
9
6
O
c
t
-
9
7
D
e
c
-
9
8
F
e
b
-
0
0
A
p
r
-
0
1
J
u
n
-
0
2
A
u
g
-
0
3
O
c
t
-
0
4
D
e
c
-
0
5
F
e
b
-
0
7
A
p
r
-
0
8
J
u
n
-
0
9
A
u
g
-
1
0
H
u
n
d
r
e
d

B
i
l
l
i
o
n

Y
e
n
Figure 19: Interoce assets of foreign banks in Japan (Source: Bank of
Japan)
34
NetInterofficeAssetsofForeignBanksinJapan
Feb07
200
150
100
50
0
50
100
A
p
r
-
8
7
J
u
n
-
8
8
A
u
g
-
8
9
O
c
t
-
9
0
D
e
c
-
9
1
F
e
b
-
9
3
A
p
r
-
9
4
J
u
n
-
9
5
A
u
g
-
9
6
O
c
t
-
9
7
D
e
c
-
9
8
F
e
b
-
0
0
A
p
r
-
0
1
J
u
n
-
0
2
A
u
g
-
0
3
O
c
t
-
0
4
D
e
c
-
0
5
F
e
b
-
0
7
A
p
r
-
0
8
J
u
n
-
0
9
A
u
g
-
1
0
H
u
n
d
r
e
d

B
i
l
l
i
o
n

Y
e
n
Figure 20: Net interoce assets of foreign banks in Japan (Source: Bank
of Japan)
35
Fund
CDs and time
deposits
Commercial
paper
Corporate
notes
Repos Total
Net assets,
$ billions
Fidelity Cash Reserves 91 / 73 28 / 27 54 / 34 70 / 70 63 / 51 128
J PMorgan Prime Money Market 98 / 94 35 / 31 57 / 39 73 / 73 67 / 62 120
Vanguard Prime Money Market 94 / 69 39 / 25 0 / 0 68 / 68 33 / 24 106
BlackRock Liquidity Temp 95 / 91 4 / 4 37 / 17 13 / 13 51 / 47 68
Reserve Primary 98 / 88 24 / 18 54 / 51 18 / 18 43 / 37 65
Schwab Value Advantage 91 / 64 24 / 19 58 / 48 67 / 67 54 / 40 61
GS FS Prime Obligations 0 / 0 0 / 0 0 / 0 2/2 0 / 0 56
Dreyfus Inst Cash Advantage 85 / 71 32 / 25 33 / 24 0 / 0 62 / 51 49
Fidelity Inst Money Market 100 / 91 44 / 44 51 / 36 45 / 45 61 / 54 47
Morgan Stanley Inst Liq Prime 4 / 4 19 / 19 0 / 0 91 / 91 37 / 37 34
Dreyfus Cash Management 92 / 75 46 / 30 31 / 31 0 / 0 70 / 56 33
AIM STIT Liquid Assets 95 / 69 25 / 20 27 / 16 84 / 84 57 / 45 32
Barclays Inst Money Market 67 / 57 10/6 30 / 21 21 / 21 24 / 19 31
Merrill Lynch Premier Inst Portfolio 92 / 80 32 / 25 46 / 36 45 / 45 60 / 51 26
Fidelity Inst Money Market: Prime 100 / 90 33 / 33 51 / 34 15 / 15 56 / 47 21
Total 92 / 78 26 / 22 47 / 33 51 / 51 50 / 42 878
Share of asset class in assets 34 26 13 11 100
Figure 21: US prime money funds assets in non-US/European bank
obligations (% each asset class) mid-2008 (Source: Baba, McCauley and
Ramaswamy, BIS Quarterly Review 2009)
36
ABCP Sponsor Location and Funding Currency ($ million)
Currency /
Sponsor
Location
U.S. dollars Euro Yen Other Total
Belgium 30,473 4,729 0 0 35,202
Denmark 1,796 0 0 0 1,796
France 51,237 23,670 228 557 75,692
Germany 139,068 62,885 0 2,566 204,519
Italy 1,365 0 0 0 1,365
J apan 18,107 0 22,713 0 40,820
Netherlands 56,790 65,859 0 3,116 125,765
Sweden 1,719 0 0 0 1,719
Switzerland 13,082 0 0 0 13,082
United Kingdom 92,842 62,298 0 3,209 158,349
United States 302,054 0 0 2,996 305,050
Total 714,871 219,441 22,941 12,444 969,697
Figure 22: ABCP sponsor location and funding currency January 1, 2007
(Source: Acharya and Schnabel, IMF Economic Review 2009, data from
Moodys)
37
0.0
0.5
1.0
1.5
2.0
2.5
3.0
3.5
4.0
1
9
8
0
Q
1
1
9
8
2
Q
1
1
9
8
4
Q
1
1
9
8
6
Q
1
1
9
8
8
Q
1
1
9
9
0
Q
1
1
9
9
2
Q
1
1
9
9
4
Q
1
1
9
9
6
Q
1
1
9
9
8
Q
1
2
0
0
0
Q
1
2
0
0
2
Q
1
2
0
0
4
Q
1
2
0
0
6
Q
1
2
0
0
8
Q
1
2
0
1
0
Q
1
Trillion
Dollars
Municipal securities
Agency and GSE
Treasury
Other Assets
Open market paper
Time and savings
deposits
Repos
Figure 23: US Money market mutual fund assets (Source: Federal Reserve,
Flow of Funds)
38
US
Households
US
Borrowers
US
Banking
Sector
European
Global
Banks
border
Wholesale
funding market
Shadow banking
system
Subprime
safeliquid claims
Figure 24: Expanding lending capacity of European banks draw USD funding
to nance increased USD lending through shadow banking system
39
USD Billion
Total Bond
Holdings
Treasury Agency Corporate
Corporate
MBS
Total 6,642 2,194 1,413 3,035 594
Advanced 3,508 963 508 2,037 350
Offshore 762 85 111 566 204
Emerging/developing 2,373 1,147 794 432 40
China 894 477 387 29 9
J apan 976 622 231 123 17
Cayman Islands 461 29 56 376 157
United Kingdom 500 48 28 424 90
Luxembourg 469 56 42 371 39
Belgium 372 15 33 323 19
Ireland 261 16 30 215 33
Switzerland 155 40 18 97 20
Germany 166 46 15 105 33
Netherlands 136 17 24 96 32
France 90 17 11 62 31
Figure 25: Foreign holding of US bonds in mid 2007 (Source: US Treasury
and Milesi-Ferretti (2009), G20 Mumbai Volume)
40
Gross Positions versus Net Positions
Large gross positions created by European banks impact on US nancial
conditions.
But net positions (current account imbalances) are small since assets
and liabilities net out.
Eurzone has near-balanced current account
UK has current account decit
Borio and Disyatat (BIS working paper, 2011)
Focusing on Global Savings Glut (net positions) misses the Global
Banking Glut (gross positions)
41
Why did European banks expand so much?
Two candidate explanations:
Basel II and EU Capital Adequacy Directive (CAD) allowed European
banks to expand assets without incurring rising risk-weighted assets
Advent of Euro opened up cross-border banking market within the
eurozone
[Shin (2011) Mapping Global Liquidity, IMF Mundell-Fleming Lecture]
42
Implications for Current Conjuncture in Europe
Europe has a twin crisis, combining banking crisis with sovereign debt
crisis
Emerging economy crises of 1990s were twin crises, combining
banking crisis with currency crisis
Deleveraging by European banks will impact not only eurozone, but also
US shadow banking system
Capital ows to emerging economies (see below)
Emerging Europe, especially
43
Landscape of Global Banking
Borrowers
in A
Borrowers
in B
Borrowers
inC
Banks
in A
Banks
in B
Banks
in C
Global
Banks
Wholesale
Funding
Market
44
Borrowers
in A
Borrowers
in B
Borrowers
inC
Banks
in A
Banks
in B
Banks
in C
Global
Banks
Wholesale
Funding
Market
45
100
0
50
100
150
200
250
300
350
400
450
500
M
a
r
.
1
9
9
9
M
a
r
.
2
0
0
0
M
a
r
.
2
0
0
1
M
a
r
.
2
0
0
2
M
a
r
.
2
0
0
3
M
a
r
.
2
0
0
4
M
a
r
.
2
0
0
5
M
a
r
.
2
0
0
6
M
a
r
.
2
0
0
7
M
a
r
.
2
0
0
8
M
a
r
.
2
0
0
9
M
a
r
.
2
0
1
0
Ireland
Spain
Turkey
Australia
South Korea
Chile
Brazil
Egypt
South Africa
Figure 26: External claims (loans and deposits) of BIS reporting banks on
counterparties listed on right (Source: BIS locational banking statistics
Table 7A)
46
100
0
50
100
150
200
250
300
350
M
a
r
.
1
9
9
9
M
a
r
.
2
0
0
0
M
a
r
.
2
0
0
1
M
a
r
.
2
0
0
2
M
a
r
.
2
0
0
3
M
a
r
.
2
0
0
4
M
a
r
.
2
0
0
5
M
a
r
.
2
0
0
6
M
a
r
.
2
0
0
7
M
a
r
.
2
0
0
8
M
a
r
.
2
0
0
9
M
a
r
.
2
0
1
0
Australia
South Korea
Indonesia
Malaysia
Thailand
Figure 27: External claims (loans and deposits) of BIS reporting banks on
counterparties listed on right (Source: BIS locational banking statistics
Table 7A)
47
100
0
100
200
300
400
500
600
700
800
M
a
r
.
1
9
9
9
M
a
r
.
2
0
0
0
M
a
r
.
2
0
0
1
M
a
r
.
2
0
0
2
M
a
r
.
2
0
0
3
M
a
r
.
2
0
0
4
M
a
r
.
2
0
0
5
M
a
r
.
2
0
0
6
M
a
r
.
2
0
0
7
M
a
r
.
2
0
0
8
M
a
r
.
2
0
0
9
M
a
r
.
2
0
1
0
Slovakia
Poland
Ireland
Spain
Turkey
Figure 28: External claims (loans and deposits) of BIS reporting banks on
counterparties listed on right (Source: BIS locational banking statistics
Table 7A)
48
100
0
500
1,000
1,500
2,000
2,500
3,000
M
a
r
.
1
9
9
9
M
a
r
.
2
0
0
0
M
a
r
.
2
0
0
1
M
a
r
.
2
0
0
2
M
a
r
.
2
0
0
3
M
a
r
.
2
0
0
4
M
a
r
.
2
0
0
5
M
a
r
.
2
0
0
6
M
a
r
.
2
0
0
7
M
a
r
.
2
0
0
8
M
a
r
.
2
0
0
9
M
a
r
.
2
0
1
0
Latvia
Lithuania
Estonia
Iceland
Figure 29: External claims (loans and deposits) of BIS reporting banks on
counterparties listed on right (Source: BIS locational banking statistics
Table 7A)
49
0
100
200
300
400
500
600
700
800
Greece Ireland Spain Australia South Korea
B
i
l
l
i
o
n

D
o
l
l
a
r
s
Other
J apan
United States
United Kingdom
Netherlands
France
Germany
Figure 30: International claims of BIS reporting banks on counterparties
in countries listed on right (Dec 2010) (Source: BIS consolidated banking
statistics Table 9D)
50
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
Greece Ireland Spain Australia South
Korea
Other
J apan
United States
United Kingdom
Netherlands
France
Germany
Figure 31: International claims (by percent) of BIS reporting banks
on counterparties in countries listed on right (Dec 2010) (Source: BIS
consolidated banking statistics Table 9D)
51
Claims of European Banks on Counterparties in Korea
0
50
100
150
200
250
2
0
0
5
-
Q
2
2
0
0
5
-
Q
4
2
0
0
6
-
Q
2
2
0
0
6
-
Q
4
2
0
0
7
-
Q
2
2
0
0
7
-
Q
4
2
0
0
8
-
Q
2
2
0
0
8
-
Q
4
2
0
0
9
-
Q
2
2
0
0
9
-
Q
4
2
0
1
0
-
Q
2
2
0
1
0
-
Q
4
B
i
l
l
i
o
n

D
o
l
l
a
r
s
Other European BIS
Reporting countries
Switzerland
United Kingdom
France
Germany
Figure 32: International claims of European BIS-reporting banks on
counterparties in Korea (Source: BIS consolidated banking statistics Table
9D)
52
Credit Supply
Notation for balance sheet of bank
C
E
f 1
r 1
L
Bank
53
Credit Supply as Flip Side of Credit Risk Model
Vasicek (2002) model, backbone of Basel capital requirements.
1
Borrower , repays the loan when 7

0, where
7

=
1
(-) +

j1 +
p
1 jA

(.) c.d.f. of standard normal, 1 and {A

} independent standard normals

Pr (7

< 0) = Pr

j1 +
p
1 jA

<
1
(-)

1
(-)

= -
1
http://www.moodyskmv.com/conf04/pdf/papers/dist loan port val.pdf
54
Bank diversies away idiosyncractic risk
Conditional on 1 , defaults are independent.
Keep C xed but diversify: increase number of borrowers, reduce face value
of individual loans
In the limit, realized value of assets is function of 1 only
n(1 ) (1 +r) C Pr (7

0|1 )
= (1 +r) C Pr

j1 +
p
1 jA

1
(-) |1

= (1 +r) C

1
(:)

55
0 0.1 0.2 0.3 0.4 0.5 0.6 0.7 0.8 0.9 1
0
3
6
9
12
15
D
e
n
s
i
t
y

o
v
e
r
a
s
s
e
t

r
e
a
l
i
z
a
t
i
o
n
s


rho=0.03
rho=0.07
rho=0.15
Asset realization densities for three values of [ = 01, (1 + ) = 1]
1
0 0.1 0.2 0.3 0.4 0.5 0.6 0.7 0.8 0.9 1
0
4
8
12
16
20
D
e
n
s
i
t
y

o
v
e
r
a
s
s
e
t

r
e
a
l
i
z
a
t
i
o
n
s


epsilon=0.05
epsilon=0.10
epsilon=0.15
Asset realization densities for three values of [ = 02, (1 + ) = 1]
2
c.d.f. of n
1 (.) = Pr (n .)
= Pr

1 n
1
(.)

n
1
(.)

1
(-) +
p
1 j
1

.
(1 +r) C

Common risk factor j determines shape of the density, with larger j implying
fatter tail.
Value-at-Risk (VaR) rule: keep enough equity to limit insolvency
probability to c 0
56
Private credit C determined from
Pr (n < (1 +)) 1) =

1
(:)+

1
1

(1+})J
(1+:)c

!
= c
Notional liabilities
Notional assets
=
(1 +)) 1
(1 +r) C
=

j
1
(c)
1
(-)

1 j

(1)
where
,(c, -, j)

1
(o)
1
(:)

57
0.0 0.1 0.2 0.3 0.4 0.5 0.6 0.7 0.8 0.9 1.0
0.0
0.1
0.2
0.3
0.4
0.5
0.6
0.7
0.8
0.9
Figure 33: Plot of notional debt to assets ratio ,(c, -, j). This chart
plots , as a function of j with c = 0.001. Dark line is when - = 0.01.
Light line is when - = 0.005.
58
Supply of Credit
Credit supply C and demand for funding 1 is obtained from (1) and balance
sheet identity C = 1 +1
C =
1
1
1+:
1+}
,
, 1 =
1
1+}
1+:

1
,
1
Aggregation holds due to proportionality
Leverage =
1
1
1+:
1+}
,
Risk premium is well-dened
Risk premium = (1 -) (1 +r) 1
59
Risk premium is decreasing as assets expand by sliding down the credit
demand curve. Lending standards are eroded in this sense.
0
f
E

1 1
1

1 /
Credit
Supply
1
1

f
r C
r
Supply of credit
60
Double-decker model of Global Liquidity
C
R
E
M
G
E
i 1 f 1
r 1
L
L
Regional Bank Global Bank
Figure 34: Bruno and Shin (2011) Capital Flows, Cross-Border Banking
and Global Liquidity
61
Diversified loan portfolio from region k
Regions
Borrowers
Regional
bank in k
k
j
Borrower j
in region k
Diversified loan portfolio
across regional banks
Global
bank
Figure 35: Global and regional banks
62
Global, Regional and Idiosyncratic Risk Factors
7
|

1
(-) +

j1
|
+
p
1 jA
|
1
|
=
p
,G+
p
1 ,1
|
Regional bank / defaults when
1
|
< n
1
((1 +)) 1) =
1

1
(-) +
p
1 j
1
(,)

Or when
|
< 0

|


j1
|

1
(-)
p
1 j
1
(,)
=
p
j,G+
p
j (1 ,)1
|

1
(-)
p
1 j
1
(,)
63
Asset realization is deterministic function of global risk factor G
n(G) = (1 +)) 1 Pr (
|
0|G)
= (1 +)) 1 Pr

1
|


1
(:)+

1
1
(,)

(1o)

q
o
1o
G

= (1 +)) 1

q
o
1o
G

1
(:)+

1
1
(,)

(1o)

Quantiles follow from the c.d.f. of n(G).

1 (.) = Pr (n(G) .)
= Pr

G n
1
(.)

n
1
(.)

64
where
n
1
(.) =
q
1o
o

:
(1+})J

+

1
(:)+

1
1
(,)

(1o)

Global bank Value-at-Risk (VaR) rule with insolvency probability 0.

Notional liability of the global bank is (1 +i) '.
= Pr (n(G) < (1 +i) ')
=

q
1o
o

(1+I)1
(1+})J

+

1
(:)+

1
1
(,)

(1o)

65
Notional liabilities
Notional assets
=
(1 +i) '
(1 +)) 1
=

o
1
(~)
1
(:)

1
1
(,)

(1o)

c (, c, ,, -, j)
Cross-border loan supply
1 =
1
c
1
1+}
1+I
c
66
0
L
1 /
1
1

i
f L
S
f L
D
f
1 1 r
i
E
G

1 1
1

Figure 36: Equilibrium cross-border lending 1

67
Capital Flows and Domestic Credit
Market clearing for 1
1
1
1+}
1+:

1
,
1
=
1
c
1
1+}
1+I
c
Private credit
C =
1
c
+1
1
1
1+:
1+I
,c
Total private
credit
=
Aggregate bank capital (regional + global)
1 spread
regional
leverage

global
leverage
68
Risk premium in recipient economy
(1 -) (1 +r) 1
Equilibrium stock of cross-border lending 1
1 =
1
c
+1
1

1+:
1+I
,c
1
1+:
1+I
,c
Total cross-
border lending
=
Global and weighted regional bank capital
1 spread
regional
leverage

global
leverage
69
Comparative Statics
Banking sector capital ows:
increase with 1
1
(bank ROE)
increase with bank leverage (fall with VIX)
increase in change in bank leverage (fall with VIX)
fall with interaction between ROE and VIX
(Explored empirically in Bruno and Shin (2011))
70