Cross-border loan portfolio diversification, capital requirements, and the European Banking Union

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Title: Cross-border loan portfolio diversification, capital requirements, and the European Banking Union
Author: Jokivuolle, Esa ; Virén, Matti
Organization: Bank of Finland
Suomen Pankki
Series: BoF Economics Review
Series year: 2019
Series number: 3/2019
Year of publication: 2019
Publication date: 28.5.2019
Pages: 11
Subject (yso): pankit; luotot; euroalue
Abstract: We provide preliminary evidence of potential risk reduction benefits from banks’ loan portfolio diversification cross-border within the Euro area. Using aggregate data on banking sector cor-porate loan losses for each Euro area member-state, our estimates suggest that the static diversification benefit could be substantial. The minimum capital needed to withstand the max-imum annual loss from a hypothetical fully diversified Euro area bank loan portfolio over the period 2001-2017 would have been only 40 % of the total capital needed to withstand the maximum losses on a country by country basis. We also calibrate the country-specific loan loss distributions and the Euro area portfolio’s loss distribution to the Vasicek (2002) model, which underlies the Basel framework’s Internal Ratings Based Approach. We find that the im-plied asset correlation parameter of a median country portfolio is about twice as large as that of the fully diversified Euro area portfolio.
Rights: https://helda.helsinki.fi/bof/copyright


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