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Foreign Investment, Regulatory Arbitrage, and the Risk of U.S. Banking Organizations

Published online by Cambridge University Press:  01 April 2019

W. Scott Frame ,
Atanas Mihov  and
Leandro Sanz
W. Scott Frame
Affiliation:
Frame, scott.frame@dal.frb.org, Federal Reserve Bank of Dallas
Atanas Mihov*
Affiliation:
Mihov, atanas.mihov@rich.frb.org, Federal Reserve Bank of Richmond
Leandro Sanz
Affiliation:
Sanz, leandro.sanz@rich.frb.org, Federal Reserve Bank of Richmond
*
Mihov (corresponding author), atanas.mihov@rich.frb.org
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Abstract

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This study investigates the implications of cross-country differences in banking regulation and supervision for the international subsidiary locations and risk of U.S. bank holding companies (BHCs). We find that BHCs are more likely to operate subsidiaries in countries with weaker regulation and supervision and that such location decisions are associated with elevated BHC risk and higher contribution to systemic risk. The quality of BHCs’ internal controls and risk management plays an important role in these location choices and risk outcomes. Overall, our study suggests that U.S. banking organizations engage in cross-country regulatory arbitrage, with potentially adverse consequences.

Type
Research Article
Information
Journal of Financial and Quantitative Analysis , Volume 55 , Issue 3 , May 2020 , pp. 955 - 988
Copyright
Copyright © Michael G. Foster School of Business, University of Washington 2019

Footnotes

The authors thank David Becher, Thorsten Beck, Allen Berger, Mitchell Berlin (discussant), Giacomo Calzolari (discussant), Mark Carey (discussant), Eugeneio Cerutti, Stijn Claessens, Ricardo Correa, Ibrahim Ergen, Jean-Pierre Fenech (discussant), Jeffrey Gerlach, Linda Goldberg, Neeltje van Horen (discussant), Joel Houston (the referee), Andrew Karolyi, Nada Mora, Ned Prescott, John Sedunov (discussant), Marti Subrahmanyam, Alvaro Taboada (discussant), Judit Temesvary, Barry Williams, and Laurent Weill (discussant) for valuable comments and suggestions. They also thank seminar and conference participants at the Bank of Finland, the Bank of France, the Reserve Bank of Australia, and Sveriges Riksbank; the 2016 International Conference on Financial Cycles, Systemic Risk, Interconnectedness, and Policy Options for Resilience; the 2016 Federal Deposit Insurance Corporation (FDIC)/Journal of Financial Services Research (JFSR) 16th Annual Bank Research Conference; the 2016 Conference on Financial Intermediation in Emerging Markets; the 2017 Allied Social Sciences Associations (ASSA) Annual Meeting; the 2017 Fixed Income and Financial Institutions Conference; the 2017 Northern Finance Association Annual Meeting; and the 2017 Ninth Baffi Carefin International Banking Conference for valuable comments and suggestions. They also thank Tobias Adrian and Markus Brunnermeier for providing bank holding company (BHC) risk data and Andrew Ellul and Vijay Yerramilli for providing BHC risk management quality data. All remaining errors are the authors’ alone. The views expressed in this article do not necessarily reflect the position of the Federal Reserve Bank of Dallas, the Federal Reserve Bank of Richmond, or the Federal Reserve System.

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