A loss of solvency increases central bank vulnerability, reducing the credibility of commitments to defend a nominal regime, including an exchange rate peg. This paper develops a methodology to assess central bank solvency and exposure to risk. The measure, based on Value-at-Risk, is frequently used to evaluate commercial risk. The paper emphasizes that the ability to sustain nominal commitments cannot be gauged by focusing only on selected accounts (such as reserves), but requires a comprehensive solvency and vulnerability analysis of the monetary authorities’ complete portfolio (including off-balance-sheet operations). The suggested measure has powerful reporting value and its disclosure could improve monitoring of sovereign solvency risk.
Christoph Aymanns, Carlos Caceres, Christina Daniel, and Miss Liliana B Schumacher
Understanding the interaction between bank solvency and funding cost is a crucial pre-requisite for stress-testing. In this paper we study the sensitivity of bank funding cost to solvency measures while controlling for various other measures of bank fundamentals. The analysis includes two measures of bank funding cost: (a) average funding cost and (b) interbank funding cost as a proxy of wholesale funding cost. The main findings are: (1) Solvency is negatively and significantly related to measures of funding cost, but the effect is small in magnitude. (2) On average, the relationship is stronger for interbank funding cost than for average funding cost. (3) During periods of stress interbank funding cost is more sensitive to solvency than in normal times. Finally, (4) the relationship between funding cost and solvency appears to be non-linear, with higher sensitivity of funding cost at lower levels of solvency.
Ms. Sally Chen, Minsuk Kim, Marijn Otte, Kevin Wiseman, and Ms. Aleksandra Zdzienicka
Balance sheet recessions have been a drag on activity after the Global Financial Crisis, underscoring the important role of balance sheet adjustment for resuming sustained growth. In this paper we examine private sector deleveraging experiences across 36 advanced and emerging economies countries since 1960. We consider the common features and divergent experiences of deleveraging episodes across countries, and analyze empirically the impact of different aspects of deleveraging during the bust phase of leverage cycles on subsequent medium-term growth. The results suggest that larger and quicker unwinding of non-financial sector debt overhangs is associated with sizable medium-term output gains, and that policies should focus on facilitating up-front balance sheet adjustment.
Mr. Kamiar Mohaddes, Mr. Mehdi Raissi, and Anke Weber
This paper examines whether a tipping point exists for real GDP growth in Italy above which the
ratio of non-performing loans (NPLs) to total loans falls significantly. Estimating a heterogeneous
dynamic panel-threshold model with data on 17 Italian regions over the period 1997–2014, we
provide evidence for the presence of growth-threshold effects on the NPL ratio in Italy. More
specifically, we find that real GDP growth above 1.2 percent, if sustained for a number of years, is
associated with a significant decline in the NPLs ratio. Achieving such growth rates requires
decisively tackling long-standing structural rigidities and improving the quality of fiscal policy.
Given the modest potential growth outlook, however, under which banks are likely to struggle to
grow out of their NPL overhang, further policy measures are needed to put the NPL ratio on a firm
downward path over the medium term.
José Garrido, Mr. Wolfgang Bergthaler, Ms. Chanda M DeLong, Juliet Johnson, Amira Rasekh, Anjum Rosha, and Natalia Stetsenko
To date, the use of empirical data in insolvency law analysis has been sporadic. This paper provides a conceptual framework for the use of data to assess the effectiveness and efficiency of insolvency systems. The paper analyzes the existing sources of data on insolvency proceedings, including general insolvency statistics, judicial statistics, statistics of insolvency regulators and other sources, and advocates for the design of special data collection mechanisms and statistics to conduct detailed assessments of insolvency systems and to assist in the design of legal reforms.
Carlos Caceres, Diego A. Cerdeiro, Dan Pan, and Suchanan Tambunlertchai
This paper analyzes a group of 755 firms, with aggregate indebtedness of US$6.2 trillion, to assess the solvency risks and liquidity needs facing the U.S. corporate sector based on projections of net income, availability and cost of funding, and debt servicing flows under different stress test scenarios. The paper finds that leveraged corporates account for most of the potential losses arising from the macroeconomic stresses associated with the COVID-19 crisis, with a concentration of these losses in the oil and gas, auto, and capital and durable goods manufacturing sectors. However, potential losses from corporate debt write-downs appear to be a fraction of banks’ capital buffers and, given the size of the leveraged segment and the relatively long duration of that sector’s debt, the near-term liquidity needs of these corporates appear modest. Corporate stresses could, however, amplify the current economic downturn—as firms cut investment spending and reduce employment—potentially giving rise to significant indirect losses for the financial system.