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22-Ferri Pesce_Mise en page 1 12-09-05 13:45 Page325 Regulation and the Viability of Cooperative Banks Giovanni FERRI1 and Giovanni PESCE2 Introduction3 The aim of this paper is to analyze the impact that banking regulation has had upon the business model of coop banks. Banks exist because of information asymmetries between borrowers and lenders (Stiglitz and Weiss, 1981). Banks are there to tackle the problem as delegated monitors of the borrowers (Diamond, 1984). The importance of banks stems from the fact that they provide a monitoring service to investors at a considerably low cost, which decreases the cost of financing for borrowers. In the run up to the Great Crisis of 2007-2009, there had been a general relaxation of the monitoring activity from a large part of the global banking system, mainly though not exclusively by Anglo- American institutions. Many institutions moved from the OTH model–‘originate- to-hold’–to the OTD model–‘originate-to-distribute.’ Furthermore, the OTD model was generally interpreted in the strict sense that originating banks would give away the underlying risk along with the securitized loan portfolio and this had the disastrous consequences we all learnt. The collapse in some credit markets highlighted that the presence of generalized OTD banks had dramatic results for the whole system. While securitization has its merits in terms of risk-diversification, only the model of the OTH bank is consistent with the informational advantage that banks have over the market. The cost of monitoring is reduced through the use of soft and private information (Scott, 2006). We can therefore recognize that only the OTH model is sustainable in the long run without fostering systemic risk through excessive securitization and the assumption of excessive risk by banks and financial institutions. Banking regulation exists to remedy market failures that can be traced to two main features: (1) the risk of systemic crises in the banking sector; and (2) the inability of depositors to monitor banks (Santos, 2001). Both of these types of market failures emerged in all their seriousness in the Great Crisis, boosting a new wave of regulation after the deregulation of the banking sector in previous decades. The failures of existing regulation can explain the need for more sophisticated forms of regulation than those used for normal liquidity risks. These new forms should be sophisticated enough to allow banks to ‘survive’ in the way banks manage their risk (Dionne, 2003). The Amazing Power of Cooperatives ...325...
22-Ferri Pesce_Mise en page 1 12-09-05 13:45 Page326 Since the Great Crisis, the international banking system–and beyond–has been at the center of the debate for reform. This is the same debate that led to the definition of new rules to which banks are already adapting. The reform process follows a long and tortuous course, but the current phase of re-regulation has already given birth to some important results, such as the new Basel Accord in the end of 2010–called Basel III– which is perhaps the pinnacle of the iceberg regarding the new round of bank regulation (DApice and Ferri, 2010). The agreement, following the framework of the three pillars established in the Basel II Accord, aims to correct critical points that arose during the crisis. Banks will hold more capital and capital of better quality than in the past. The focus is moved to Tier I Capital– minimum 6%–and Common Equity Tier I–minimum 4.5%–for a minimum Total Capital of 8% of risk-weighted assets. The causes and the development of the Great Crisis have greatly influenced the Agreement. Among the main features with respect to Basel II, are the introduction of (a) a ‘conservation buffer’ equal to 2.5% of total risk-weighted assets and comprised of Common Equity Tier I to ensure adequate capital in periods of stress and losses; (b) a ‘leverage ratio’ to curb excessive borrowing by bank institutions–a minimum Tier I leverage ratio of 3% is under test; (c) a ‘countercyclical buffer’ to limit the pro- cyclicality of Basel II; and (d) two liquidity requirements—the first ‘Liquidity Coverage Ratio’ (LCR) to absorb shocks in the short term (i.e. 30 days), and the second ‘Net Stable Funding Ratio’ (NSFR) to absorb shocks in the long term–over a period of one year. However, it should be stressed that current banking regulations and the new policies are designed around shareholder value banks–established mainly as PLCs, which maximize profit–without taking into account the diversity that exists within banking systems with a strong presence of stakeholder value banks–that maximize the welfare of a set of subjects broader than just shareholders. Coop banks are a key component of this latter group of banks. The effects of regulation differ depending on the risk profile of banks. Supervisors of regulation should recognize that the approach ‘one size fits all’ is inappropriate (Klomp and De Haan, 2010). For example, the third pillar of the Basel Accord, which is based on the disclosure of information to subject banks to market discipline, has reduced power for coop banks while it is best suited for commercial banks, especially if listed. In addition, we must not forget that the current approach of regulation and supervision focuses on some parameters such as profitability–suited for shareholder value banks but not for stakeholder value banks–may distort the behavior of the latter banks, pushing them toward the goals of shareholder value banks. Empirical studies have shown that the regulation, if it focuses on ‘changes’ of the balance sheet for banks or on the structure of the banking system, is generally ineffective or even ...326... The Amazing Power of Cooperatives
22-Ferri Pesce_Mise en page 1 12-09-05 13:45 Page327 harmful in increasing the fragility of the system. Two recent examples are the use of the mark-to-market approach of International Accounting Standards–later suspended during the Great Crisis–and the excessive use and confidence of credit ratings and credit scoring in Basel II (Ferri, 2001). On the contrary, effective regulation should focus on the behavior of bank managers and shareholders (Tchana, 2009). Ownership structure and deregulation have an impact on a banks’ risk-taking: there is an agency problem between managers who hold bank capital–the insiders–and outside investors holding capital but with no management powers. The banks’ portfolio, of which the insiders hold a certain amount of capital typical for coop banks, is less risky than that of banks controlled by outsiders, typically commercial banks (Saunders et al., 1990). The Great Crisis has highlighted the advantages and importance of diversity in the banking system (Ayadi et al., 2010). The change of sentiment toward coop banks, which were considered before the crisis as outdated and inefficient, is a clear example. However, banking regulation almost invariably fails to recognize the positive role of diversification and instead increases regulatory requirements indistinctly such as capital ratios, and creates new rules such as liquidity ratios for all banks. As De Larosière (2011) has noted, Basel III “…may create new risks by favouring the development of the insufficiently regulated shadow banking system and by penalizing a diversified universal banking model [the continental European universal bank] that proved resilient through the crisis.” Higher capitalization proved neither capable of reducing the likelihood of national banking systems experiencing the Great Crisis of 2008 (Caprio et al., 2010), nor capable of mitigating the fall in banks’ stock prices when the market re-priced risk in the aftermath of the Lehman Brothers bankruptcy (Bongini et al., 2009)–where the share price collapse was lower for intermediaries anchored to the traditional banking model. This paper is organized as follows: section 2 presents possible effects of the new banking regulations on banking diversity, with particular attention to those of Basel III on coop banks. Section 3 describes the data and the empirical strategy to test our hypothesis, as well as the presentation of empirical results. Section 4 provides final conclusions. Banking regulation and effects on banks diversity The Great Crisis of 2007-2009 highlighted the virtues of coop banks. After many years of negative prejudices towards coop banks–driven by the presumed benefits associated with financial liberalization–the authorities, which includes financial and academic communities, have recognized the importance of coop banks. The Great Crisis underscored the major value of diversity in the banking system with respect to a situation where all banks adopt a single type of business model. The Amazing Power of Cooperatives ...327...
22-Ferri Pesce_Mise en page 1 12-09-05 13:45 Page328 Although Basel III is designed to make the banking system more resilient, some shadows still gloom on the horizon. It was stressed (De Larosière, 2011) that the Accord penalizes banks that proved to be more resilient during the crisis: the diversified universal banking model based on the traditional system where OTH and coop banks are an important part, especially in Europe. Universal banks, particularly coop banks,4 were the least involved in the Great Crisis, showing more resilience due to the fact that they rarely used securitization and because they had strong balance sheets and a large deposit base, which reinforced their liquidity. An example of this is represented by the Italian Banche di Credito Cooperativo (BCC), which, continued to finance the economy and in particular small and medium-sized enterprises (SMEs) during the credit crunch. For instance, between 2007 and 2009, loans granted by BCC grew faster than at PLC banks (8.7% against 3.3%).5 The data confirm a recent advertisement of Italian coop banks stating: “My bank is different.” The coop banks are different with respect to other banks–primarily those banks established as PLC–given the opposing objectives that they pursue. Coop banks should not maximize shareholder value (SHV), which is the primary objective for banks established as PLC, often pursued through the OTD model that best fits that purpose. Rather, by their nature, coop banks pursue other objectives maximizing benefits for their members and the communities they serve. Coop banks are therefore the prototype of stakeholder value (STV) banks. The clear difference between SHV and STV banks emerges when one looks at the governance of banks. For shareholder value (SHV) banks, the key element is the share–‘one share one vote’–while for coop banks the key element is the member, ‘one member one vote.’ Although the principle of ‘one member one vote’ has disadvantages in terms of governance (i.e. less flexibility and timeliness in taking decisions), it has the obvious advantage of leading to decisions that represent the will of a larger group of bank stakeholders. As a consequence of this system of governance, coop banks show a lower volatility in returns (Hesse and Cihák, 2007; Bongini and Ferri, 2008), granting them the possibility to pursue long-term goals through a business model that not only hinges on the OTH model but also features limited exposure to financial market-related activities and deep roots in relationship banking. These deep roots in relationship banking are also a natural consequence of the structure of coop banks. Often, their regulations/statutes prescribe that the majority of loans should go (with better conditions with respect to other borrowers) to coop bank members with whom the coops entertain relationships that go well beyond the normal lending bond, resulting in commercial and professional relationships (not to mention family or friendship ties). These relationships have a positive effect on facilitating lending ...328... The Amazing Power of Cooperatives
22-Ferri Pesce_Mise en page 1 12-09-05 13:45 Page329 and lowering the costs of screening and monitoring members and borrowers. In addition, the ‘stigma’ effect in the community reduces the likelihood of opportunistic behavior by the borrowers. It follows that the STV banking model is better placed to reduce borrowers’ information asymmetries, thus overcoming market failures that prevail with other banking systems. The new requirements of Basel III–capital requirements but also other measures such as liquidity requirements–may penalize universal banks by pushing them into fierce competition to attract new deposits (e.g., increasing interest rates paid on deposits) for compliance purposes, thereby increasing the cost of lending. Loans will probably be cut to reach the increased capital requirements deemed necessary under the new regulation, and banks will tend to keep only the most profitable assets within the same risk assets class on their balance sheet. Practically, not much has changed in the field of supervision by authorities. The so-called ‘light touch’ approach was one of the causes of the Great Crisis. Had controls been more effective, such as countries like Canada or Italy, much of the disaster that occurred could have been avoided. In addition, the setting of banking regulation and supervision based on parameters, such as profitability–appropriate for SHV banks but less so for STV banks– can somehow encourage the latter to behave like the former, distorting their original nature. The concept behind the Basel Accords that numbers, ratios and more generally mathematics alone is needed to control and reduce risk has led to a false sense of security over the years, with the only result being to save the credibility and reputation of regulators (Pomerleano, 2010). Increased coordination between the supervisory authorities worldwide, not only in the midst of the Great Crisis, is essential to create a level playing field and to prevent the banking and financial institutions from exploiting gaps between different regulations. Given the highly interconnected global financial system, regional reform is inadequate to solve the problem of systemic risk. The regulatory authorities of different regions need to improve coordination to prevent a future systemic banking and financial crisis, wherever it has its roots. The possibility of regulatory arbitrage penalizes coop banks once again, along with banks generally focused on relationship lending, in favor of global banks that can somehow circumvent the banking regulation and enjoy a competitive advantage. This may lead to an outflow of capital from more regulated banking systems to countries with less stringent banking regulations or, even worse, toward the shadow banking system. Given the high interconnection of banking and financial systems around the world, regulatory arbitrage may increase global systemic risks irrespective of the new and larger capital requirements of Basel III. The Amazing Power of Cooperatives ...329...
22-Ferri Pesce_Mise en page 1 12-09-05 13:45 Page330 The high concentration of the banking system and the problem of ‘too-big-to-fail’ banks, are two issues closely linked and only partially addressed by the new banking regulation. The ‘ordered failure’ of large institutions introduced in the U.S. banking regulation by the Dodd-Frank Act is acceptable in theory, but will probably result in increased concentration in the banking and financial system; most likely, large institutions will acquire the assets of failed institutions, consequently increasing overall systemic risk. On the other hand, banking institutions of small size and closely linked to their territory, with a relationship-lending business model, will be allowed to fail while important institutions for the system, in periods of monetary restraint, will not be allowed to fail in a natural way, effectively reducing competition in the loan market. In the U.S. from 2008 to 2010, 313 banks with average total assets of less than $10 billion–for a total of about $200 billion–have failed. That is about one tenth of the value of total assets of JPMorgan Chase in 2010. The failure of a cooperative bank in a small town in Northern Italy would certainly not ‘earn’ the front page of the Financial Times, as would a giant bank of Wall Street. The increasing complexity and growing volume of regulations that banks must follow leads to increased regulatory compliance costs that are–at least in relative terms–larger for the small banks, like the majority of coop banks. For example, if compliance to new regulation standards, which today can be represented by the move from Basel II to Basel III, involves the use of one additional unit of personnel, the impact on costs for a cooperative bank with 10 employees–a value not far from the reality of many of the Italian coop banks–is approximately equal to 10%. In the case of a large banking institution, with 10,000 employees, the increase in compliance costs will be approximately equal to just 0.001%. In other words, the increase of compliance costs that are fixed costs for each bank creates an artificial scale benefit of a regulatory nature, thus pushing banks to grow, for example, through mergers and acquisitions (M&A) with other smaller banks. Coop banks, given their typically small size, particularly feel this unintended regulatory push. Growth is not a negative factor per se, but it raises some issues for coop banks such as governance problems, especially related to the difficulties inherent in the operation and participation of members in bank meetings. A further distortion may emerge, effectively placing the strategy of the cooperative bank exclusively at the service of members rather than including the interests of other groups in the community that the bank operates within, as it should be for stakeholder banks. Revisions to regulation are needed so that compliance costs do not lead to an artificial increase in the size of coop banks–possibly weakening their ethical roots–and to greater concentration of the banking system, which would increase systemic risk. Thus, it seems appropriate to advocate some type of “proportionality” in the enforcement of regulation that, even though applied ...330... The Amazing Power of Cooperatives
22-Ferri Pesce_Mise en page 1 12-09-05 13:45 Page331 horizontally, should be drastically simplified for small banks in a way to avoid building artificial regulatory-induced economies of scale. Additionally, the size of the banking business poses at least two additional problems for supervisors: the ‘scrutiny problem’ and the ‘skill problem.’ The scrutiny problem is related to the volume of banking transactions and related documents that authorities should consider during their surveillance operations. The skill problem is connected with skills that the supervisory staff must have to analyze complex operations and tools that banks undertake on a daily basis. Using the example above, let us assume that a cooperative bank with 10 employees needs only one examiner–a number not far from reality. If we apply the same proportion to the bank with 10,000 employees, 1,000 examiners would be needed, a number of course not observed in reality.6 This difference is also reflected in the number of transactions and documents that authorities may consider in the surveillance. In the case of coop banks, you will have a very high percentage of documents being examined, while in the other case, you will see an examination of documents only on a sample basis. The test on a sample basis will inevitably lead to less attention to certain aspects of bank operations increasing the probability of not having a reliable view of the whole situation of the bank, increasing the systemic risk due to any irresponsible behavior by the institution that went unidentified during the onsite examination. The scrutiny problem a competitive advantage gives to larger banks compared to banks of more modest size, as in the case of a cooperative bank, does not help “level the (regulatory) playing field.” The problem obviously increases with the introduction of new and more complex rules such as Basel III and by the type of supervision–the ‘light touch’ versus the ‘rigorous touch.’ In turn, the large size of banking institutions may push them to undertake more complex operations and to use complex financial instruments in contrast to small size banks, such as the coops. The complexity of operations and tools leads directly to the skill problem for surveillance authorities. During the Great Crisis, we heard many times of ‘toxic assets’–complex financial instruments that even those who had created those instruments were not fully aware of the risks involved. The opacity that characterized and distinguished complex financial instruments such as CDOs and ABS requires very high skills that supervisors in most cases do not have (sometimes supervisors resorted to pools of external experts to evaluate those financial instruments). Can an examiner understand the risks contained in hundreds and hundreds of pages describing these instruments before they have infected the whole system? The story of the subprime securitization pyramid said ‘no.’ In addition, the differences in the speed with which financial innovation and supervisors and regulation move makes the task extremely difficult or even impossible. The Amazing Power of Cooperatives ...331...
22-Ferri Pesce_Mise en page 1 12-09-05 13:45 Page332 Once again, OTH banks relying on relationship banking and rooted in their respective territory are penalized by the regulatory and surveillance framework. These institutions had little or nothing to do with securitization–the root of the OTD model–and instead they engaged in traditional operations and instruments such as lending to enterprises and households. The approach that still shapes banking regulation is based on ‘one-size-fits-all.’ Terms like ‘diversity,’ ‘biodiversity,’ ‘relationship banking’ or ‘coop banks’7 are completely absent in the text of the Basel III Accord, revealing that there is little regulatory attention to the different roles and characteristics that distinguish market participants in the banking system. Indeed, some studies (Ayadi et al., 2010) show that biodiversity is a value in the banking system to preserve the stability with coop banks, contributing significantly and positively to the maintenance of broader economic stability. Alas, regulators do not seem to pay enough attention to this point. The new bank regulation: a survey among Italian coop banks During 2011–after the release of the final text of the Basel III Accord–we conducted a survey questionnaire among Italian coop banks (BCC) to learn their views on various aspects of the new banking regulation that will apply to banks in the coming years. At the end of our survey, we collected answers from 141 BCC–about the 33% of the total number of BCC in Italy at end 2011. Among other points,8 we requested information on internal staff dedicated to regulatory compliance and possible impacts of the new Basel Accord on several aspects of bank governance. Balance sheet and other structural data on Italian BCC come from the 2011 edition of the “Yearbook of Coop banks,”9 an annual collection of data on Italian BCC. This information also came directly from balance sheet documents when data were not available from the Yearbook. As a first step of our hypothesis, we test the existence and relevance of scale effects in compliance regulation staff costs at coop banks. To do so, we implement an econometric model where the dependent variable is the ratio in each BCC between the internal staff devoted to regulatory compliance in 2010 and the total staff in the same year. In particular, we estimate the following specification: SRCi,2010 = β0 + β1Xi,t + β3log(DIPi,2010) + β4log(Qi) + Dnet,i + Dpro,i + εi (1) Where SRCi,2010 is the ratio between the internal staff devoted to regulatory compliance and the total staff in 2010 for the cooperative banki. We introduce a set of structural ...332... The Amazing Power of Cooperatives
22-Ferri Pesce_Mise en page 1 12-09-05 13:45 Page333 factors of coop banks, Xi,t and our main covariate of interest, DIPi,2010, which represents the number of total staff in cooperative banki in 2010. We also test qualitative coop banks specific factors, Qi, resulting from the survey. In order to control for geographic fixed effects that could impact staff regulatory compliance costs, local coop banks associations fixed effects, Dnet,i, are introduced in the empirical specification. The specification include also Italian provinces fixed effects, Dpro,i, to control for other geographic characteristics. This set of dummies will hence absorb any effects specific to the coop banks. We report the results of estimates of (1) in Table 1. The estimation results confirm our hypothesis that the share (to total staff) of staff dedicated to regulatory compliance represents fixed costs for coop banks. Estimates also show that SRC depends positively and significantly on the amount of traded volume by branches of coop banks. On the other hand, the BCC size–expressed in terms of total employees–has a negative effect. The coefficient is indeed negative and largely significant, confirming that for BCC, a positive scale effects on staff dedicated to regulatory compliance exists. In other words, we can say that smaller coop banks bear a disproportionate cost of regulatory compliance, in terms of dedicated staff, vis-à-vis larger coop banks. Another important point is represented by the fact that the share of staff for regulatory compliance increases when coop banks, in their history, have been part of mergers and acquisitions (M&A). The coefficient of the dummy variable M&A is positive and significant, highlighting the presence of administrative costs arising from these operations, possibly due to the duplication of staff regulatory compliance costs and to some transitional adjustment costs. Estimation results (not reported here but available upon request) are robust, including the amount of capital per member showing that when the capital of the BCC is concentrated in a small number of members, the share of staff dedicated to regulatory compliance decreases. The few major members in terms of coop banks’ capital could perform an additional control function over the bank’s operations, pushing them toward more traditional operations resulting in reduced costs of regulatory compliance in terms of staff. The number of directors present in the BCC also shows a significant and positive sign. This could be due to increased work needed to inform more directors on the part of the staff devoted to regulatory compliance, leading to a sort of duplication. As a second step of the empirical analysis, we fit a probit model to check whether staff regulatory compliance costs could be an artificial driver for future M&As among, specifically Italian coop banks as a consequence of the new banking regulatory framework. The Amazing Power of Cooperatives ...333...
22-Ferri Pesce_Mise en page 1 12-09-05 13:45 Page334 The model has the following specification: M&Ai = β0 + β1Zi,t + β3SCRi,2010 + Darea,i + εi (2) Where M&Ai is a dummy variable that accounts for future possible M&As among Italian coop banks. The variable comes from our questionnaire survey, in which we asked Italian BCC: “Will the requirements of Basel III increase the probability of mergers and integrations among coop banks? If yes, will your bank consider that option?” M&Ai in particular takes value 0 if coop banks answered “No” to the second part of the question and value 1 if the answer was “Yes.” Our main aim with (2) is to verify if the ratio between the internal staff devoted to regulatory compliance and the total staff in 2010 for the coop banki, SCRi,2010, is predictive of expected future M&A operations among BCC. In other words, we test if a possible increase in regulatory compliance staff costs of the new banking regulation could push the BCC to grow in size through a sort of “artificial” economies of scale. Zi,t is a matrix of coop banks structural variables and Darea,i are fixed effects for coop banks geographical area. We should stress that it is plausible that coop banks with the same characteristics have a similar way to act. In this case, it is highly probable that coop banks of almost equal size could have a similar pattern with respect to the possibility of future M&A operations. Thus, we clustered observations to account for correlation across coop banks of similar dimension and independence across coop banks of different dimension. We used the number of coop banks’ branches to cluster coop banks in the following four groups: (1) coop banks with a maximum number of 5 branches; (2) coop banks with more than 5 and fewer than 11 branches; (3) coop banks with more than 10 and fewer than 21 branches; and (4) coop banks with more than 20 branches. We report the estimated results in Table 2. The probability that the BCC expect to be involved in future M&A operations increases as the number of M&A occurred in the past increases. In other words, the experience gained in these operations and perhaps even more, the success of past M&A operations, have a significant positive impact in considering future M&A operations to mitigate the effects of Basel III. The significant and positive coefficient of the share of staff dedicated to regulatory compliance confirms the fact that acquisitions and mergers find a driving force in the new banking regulation through the existence of artificial economies of scale as we discussed above. As expected, the likelihood of future M&A operations increases with the size of the average capital per member of the coop banks. Obviously, the smaller the number of members or the higher the share of equity per member, the greater the chance to easily reach an agreement for the M&A operations across two or more coop banks. ...334... The Amazing Power of Cooperatives
22-Ferri Pesce_Mise en page 1 12-09-05 13:45 Page335 Concluding remarks The Great Crisis highlighted the strengths of the OTH model along with the weaknesses of the OTD model. The banking institutions based on the latter model proved to be weak during the crisis while the banks based on the OTH model showed their strength and the huge contribution they provided to the stability of the whole banking system. The crisis has triggered a new wave of regulation, primarily but not exclusively, in the banking system. Basel III is one cornerstone of the new banking regulation that will apply to the entire banking system in the coming years. We have seen how it introduces measures to correct and prevent the causes that triggered the Great Crisis. However, some question marks remain on the stability of the banking system, such as the problems arising from the unregulated shadow banking system, the possibility of regulatory arbitrage, the type of (‘light touch’ vs. ‘rigorous touch’), the extent of surveillance (‘scrutiny problem’) and the skills of supervisory authorities (‘skills problem’). Last but not least, the current regulatory approach ignores the benefits from the presence of banking and financial institutions with different objectives and governance methods. Coop banks, for example, were considered outdated and inefficient institutions until a few years ago, but the Great Crisis had highlighted to the public throughout Europe and beyond of the positive contribution coop banks give to the stability of the whole banking system. However, the regulation in its current framework does not recognize such a role. Instead, it creates distortions that may push these banks into business and governance models outside their nature, characterizing mainly big banks, primarily PLC banks. We argued that coop banks are urged to comply via the channel of regulatory compliance costs. From an ad hoc survey of Italian coop banks, we found that compliance costs–in terms of dedicated employees–had increased on average of 175% between 2000 and 2010–even before the enforcement of Basel III–with peaks of 500% for some coop banks. In addition, in 2010, an average of 1.9% of these banks’ staff was committed to regulatory compliance, with peaks above 4%. The costs of staff dedicated to regulatory compliance–as a proportion of the total staff–represents fixed costs for coop banks. After taking into account differences among coop banks in terms of volume of business, geographic location, workforce size and local networks, coop banks play a key role in explaining the costs of staff devoted to regulatory compliance. “Increasing” the total number of employees of coop banks significantly reduces their regulatory compliance staff costs. In other words, this means that coop banks with a smaller total staff bear a cost of regulatory compliance–in terms of dedicated staff–relatively higher than at larger coop banks. The Amazing Power of Cooperatives ...335...
22-Ferri Pesce_Mise en page 1 12-09-05 13:45 Page336 All of this compels coop banks to find solutions to reduce the costs of regulatory compliance. One way is through mergers and acquisitions (M&As) among coop banks; in fact, 85% of the responding coop banks said that Basel III increases the probability of M&As, with 43% of respondents saying their own bank will be affected directly by this event. We find also that the experience (and success) gained in past M&A operations has a significant and positive impact on the probability that coop banks expect to be involved in future M&A operations for which the share of staff dedicated to regulatory compliance is a driving force, through the existence of artificial economies of scale, pushing coop banks to such measures in order to mitigate the effects of Basel III. We thus need to reassess bank regulation in a perspective that takes into account the differences in the nature and governance of different types of bank institutions to make the whole banking system resilient and to prevent the recurrence of new crises in the future. Possibly, enlightened legislators and regulators will engage in applying some proportionality criterion to the enforcement of these new rules. This is needed to preserve diversity within the banking system, whose virtues were (re-)discovered with the Great Crisis of 2007-2009. Now, banking diversity demands practical measures of safeguarding rather than simply lip service. Table 1 – Scale effects in compliance regulation staff costs Dependent variable: staff regulatory compliance costs Note: ***, **, * denote statistical significance at 1%, 5% and 10% respectively (robust standard error in parenthesis). Estimates include local coop banks associations and provinces fixed effects. ...336... The Amazing Power of Cooperatives
22-Ferri Pesce_Mise en page 1 12-09-05 13:45 Page337 Table 2 – Future M&A operation among Italian coop banks Dependent variable: probability of future M&A Note: ***, **, * denote statistical significance at 1%, 5% and 10% respectively (robust standard error in parenthesis). Estimates include area fixed effects and intragroup (branches) correlation (independent across groups, clusters). Notes 1 Chairman of the Department of Economics at the University of Bari “Aldo Moro”, (email@example.com) 2 European Research Institute on Cooperative and Social Enterprises (Euricse), (firstname.lastname@example.org) 3 Though we bear the exclusive responsibility of any errors or omissions and the views put forward do not involve any institution we may be affiliated with, we wish to thank various experts. First of all, we are indebted to Carlo Borzaga for his vision, without which this paper would have not been conceived. Then, we acknowledge enlightening suggestions from Yiorgos Alexopoulos, Roberto Di Salvo, Silvio Goglio, Panu Kalmi, David Llewellyn, Juan Lopez and Salvatore Maccarone. We thank Stefano Di Colli for valuable help in collecting the data. Last but not least, we owe special gratitude to Riccardo Bodini and the whole of Euricse staff for their unfailing support. 4 With rare exceptions in countries such as France, Switzerland, Germany, the Netherlands and the UK. 5 Our calculations on data from Banca d’Italia, 2011. 6 A fitting example is also that of the asymmetric burden imposed on banks of different size by on- site examiners. As spelled out by Lange Ranzini (2011), the President and Chief Executive of University Bank in Ann Arbor (Missouri, USA): “…the chief executive of Goldman Sachs, in an interview after his investment bank became a ‘bank holding company’ during the market panic in late 2008, that [because of] the ‘extra’ regulatory scrutiny … they now had 40 bank examiners who drop in from time to time and look over some documents … Our bank, which has 200 employees, gets 20 bank examiners each year – that is one examiner for every 10 employees. Goldman Sachs has 34,100 employees, so if the same ratios applied, it would be visited by 3,410 bank examiners for a month, or it would have 284 examiners permanently stationed on site. Our examiners look at 50 per cent of all loan files–that means they read every piece of paper in every one of those files. Then they review all reports that can be output by our computer systems. Can the examiners even look at a 0.01 per cent sample of a mega bank’s files?” 7 Only quoted in note number 12 of the Basel III Accord. 8 The questionnaire – available from upon request – consisted of 12 multiple choice questions and 5 open questions. 9 Data are updated to October 2011. The Amazing Power of Cooperatives ...337...
22-Ferri Pesce_Mise en page 1 12-09-05 13:45 Page338 Bibliography AYADI, R., D.T. LLEEWELLYN, R.H. SCHMIDT, E. ARBACK and W.P. DE GROEN (2010). Investigating Diversity in the Banking Sector in Europe, Brussels, CEPS. BONGINI, P. and G. FERRI (2008). Governance, Diversification and Performance: The Case of Italy’s Banche Popolari, Milan Bicocca University-Dept. of Management & Business Administration working paper series. BONGINI, P., G. FERRI and P. LACITIGNOLA (2009). “Was there a ‘small-bank’ anomaly in the subprime crisis?” in Bracchi & Masciandaro (editors). Le banche italiane tra crisi finanziaria, tutela del risparmio e sviluppo produttivo, Rome, Bancaria. CAPRIO, G. Jr., V. D’APICE, G. FERRI and G.W. PUOPOLO (2010). “Macro Financial Determinants of the Great Financial Crisis: Implications for Financial Regulation” Associazione Bancaria Italiana, Temi di Economia e Finanza, October. D’APICE, V. and G. FERRI (2010). Financial Instability: Toolkit for Interpreting Boom and Bust Cycles, London, Palgrave/McMillan. DE LAROSIÈRE, J. (2011). “Don’t punish the banks that performed best”, The Financial Times, March 3. DIAMOND, D.W. (1984). "Financial intermediation and delegated monitoring", The Review of Economic Studies, Vol. 51, No. 3, p. 393–414. DIONNE, G. (2003). The Foundations of Banks’ Risk Regulation: a Review of the Literature, CIRPEE Working Paper No. 03-46. FERRI, G. (2001). "Opening remarks" Special Issue on "Capital Adequacy Requirements: Impact and Evolution", Economic Notes, Vol. 30, No. 3, p. 319–326. HESSE, H. and M. CIHÁK (2007). "Cooperative Banks and Financial Stability", IMF Working Paper No. 07/2. KLOMP, J. and J. DE HAAN (2010). "Banking risk and regulation: Does one size fit all?", CPB Discussion Paper No. 164. LANGE RANZINI, S. (2011). "We don’t need more rules – just equal scrutiny", The Financial Times, August 2010. POMERLEANO, M. (2010). "The Basel II concept leads to a false sense of security", Voxeu, February 5. SANTOS, J.A.C. (2001). "Bank capital regulation in contemporary banking theory: A review of the literature", Financial Markets, Institutions & Instruments, Vol. 10, No. 2, p. 41-84. SAUNDERS, A., E. STROCK, and N. G. TRAVLOS (1990). "Ownership structure, deregulation, and bank risk taking", Journal of Finance, Vol. 45, p. 643-654. SCOTT, J.A. (2006). "Loan officer turnover and small firm credit availability", Journal of Small Business Management, Vol. 44, No. 4, p. 544–562. STIGLITZ, J.E. and A.M. WEISS (1981). "Credit rationing in markets with imperfect information", American Economic Review, Vol. 71, p. 393–410. TCHANA, F. (2009). Regulation and Banking Stability: A Survey of Empirical Studies, University of Cape Town, Working Paper No. 136. ...338... The Amazing Power of Cooperatives
22-Ferri Pesce_Mise en page 1 12-09-05 13:45 Page339 Summary After a long oblivion–if not negative prejudice–on the part of the financial community and of the authorities, the Great Crisis of 2007-2009 has highlighted the virtues of cooperative banking. First, coop banks suffered less during the crisis than commercial banks. Thus, the image of these banks improved as public opinion shifted when governments spent taxpayers’ money to salvage commercial banks and only rarely for coop banks. Furthermore, banking coops kept supplying loans while other banks were restricting credit. For example, loans granted by coop banks in Italy between 2007 and 2009–to small and medium-sized enterprises (SMEs) in particular–grew faster than at public limited company (PLC) banks: 8.7% against 3.3%. Not only were coop banks less impaired by the crisis but also their relationship-oriented business model served best in granting credit at a time of increased borrowers asymmetries of information vis-à-vis other banks. There also seems to be a new favorable attitude toward coop banks in the scientific economic community, which stopped praising benefits of financial liberalization to advocate the importance of diversity in banking. With this background and using an ad hoc survey on Italian coop banks, we ask whether the regulatory set-up and its ongoing revisions–specifically Basel III–are consistent with safeguarding coop banks’ viability. Resumen Después de un largo olvido, sino de prejuicios, por parte de la comunidad financiera y de las autoridades, la gran crisis de 2007-2009 ha destacado las virtudes de la banca cooperativa. En primer lugar, los bancos cooperativos sufrieron menos durante la crisis que los bancos comerciales. Por lo tanto, la imagen de estos bancos mejoró a medida que la opinión pública se modificó cuando los gobiernos utilizaron el dinero de los contribuyentes para salvar los bancos comerciales, y raramente algún banco cooperativo. Además, los bancos cooperativos siguieron dando préstamos cuando otros bancos restringieron los créditos. Por ejemplo, los préstamos otorgados por los bancos cooperativos entre 2007 y 2009 en Italia (a pequeñas y medianas empresas en particular), crecieron más rápido que en los bancos S.A.: 8,7% contra 3,3%. No solo la crisis no perjudicó tanto a los bancos cooperativos sino que su modelo empresarial fue más eficaz en la otorgación de créditos en un momento en el cual las asimetrías de información de los prestatarios se hicieron más palpables en relación con otros bancos. También parece haber una nueva actitud favorable hacia los bancos cooperativos en la comunidad científica que dejó de elogiar los beneficios de la liberalización financiera para propugnar por la importancia de la diversidad bancaria. Con este panorama y usando un estudio ad hoc de los bancos cooperativos italianos, nos preguntamos si el sistema regulatorio y sus revisiones continuas, específicamente Basel III, pretenden proteger la viabilidad de los bancos cooperativos. Résumé Après un long oubli – si ce nest les préjugés négatifs – de la part de la communauté financière et des autorités, la grande crise de 2007-2009 a mis en évidence les vertus des coopératives bancaires. Tout dabord, les banques coopératives ont moins souffert de la crise que les banques commerciales. Ainsi, des images améliorées de ces banques ont émergé dans lopinion publique qui a vu les gouvernements dépenser largent des contribuables pour sauver les banques commerciales et seulement très rarement les banques coopératives. En outre, les banques coopératives ont continué d’octroyer des prêts tandis que les autres banques ont restreint leur crédit. Par exemple en Italie, entre 2007 et 2009, les prêts – en particulier aux petites et moyennes entreprises (PME) –accordés par les banques coopératives ont augmenté plus vite que les prêts accordés aux sociétés publiques à responsabilité limitée (8,7 % contre 3,3 %). Cela a non seulement fait en sorte que les banques coopératives ont été moins affaiblies par la crise, mais aussi que leur modèle daffaires était le meilleur pour octroyer des crédits The Amazing Power of Cooperatives ...339...
22-Ferri Pesce_Mise en page 1 12-09-05 13:45 Page340 pendant l’augmentation des asymétries d’information des emprunteurs vis-à-vis dautres banques. Il semble aussi qu’une nouvelle attitude favorable aux banques coopératives émerge globalement dans la communauté scientifique qui a cessé de vanter les avantages de la libéralisation financière pour promouvoir limportance de la diversité dans le secteur bancaire. Dans ce contexte et à laide dun sondage ad hoc sur les banques italiennes coopératives, nous nous demandons si la réglementation mise en place et les révisions en cours – spécifiquement Bâle III – sont compatibles avec la sauvegarde de la viabilité des banques coopératives. ...340... The Amazing Power of Cooperatives