Interbank Lending and the Regulation of Multinational Banks

Banks perform the essential economic task of collecting funds from net savers (such as households) and lending funds to net borrowers (such as firms). In doing so, banks transform assets with respect to size, maturity, and risk. As a result, banks are exposed to a variety of risks. This thesis consists of two parts where particular aspects of bank risk are discussed. The first part is concerned with the question how banks themselves deal with certain aspects of bank risk by using the interbank market. An important issue for bank risk and financial stability is the structure of interbank markets and thus the determinants of banks' choice of their interbank market partner. Information between banks is a crucial factor for explaining bank behavior. More precisely, heterogeneity in information can explain the formation of widely observed structures. Another important issue concerns the conditions under which an interbank trade takes place once a bank has found an interbank market partner. The central bank is able to influence these conditions, for example, by adapting the policy rates related with the standing facilities. Contrary to the current belief, it is shown that not only a narrow but also a wide corridor between these policy rates can prevent interbank lending. The second part of the thesis is concerned with the question how regulators deal with certain aspects of bank risk when banks are internationally active. Regulation of multinational banks causes regulatory externalities from the country which is responsible for the bank's supervision to other countries where the bank is active. An obvious way to internalize these externalities is the setting-up of a banking union. The incentive of a single country to join a banking union depends on the size and structure of the banking sector. This can be verified by considering the current situation in the European Banking Union. Without a banking union, national regulators do not internalize regulatory externalities. This may result in a “race to the top” in regulatory standards because higher regulatory standards imply a saver banking sector and relocate losses to the foreign country