The IMF Working Papers series is designed to make IMF staff research available to a wide audience. Almost 300 Working Papers are released each year, covering a wide range of theoretical and analytical topics, including balance of payments, monetary and fiscal issues, global liquidity, and national and international economic developments.
Ralph Chami, Thomas Cosimano, Jun Ma, and Celine Rochon
INTERNATIONAL MONETARY FUND
The recent fnancial crisis highlighted the role of Bank Holding Companies (BHCs) in
exacerbating the crisis and in transmitting monetary policy beyond the local economy to global
markets. Yet, little is known about their behavior, as most models of banking typically focus on
banks with a loan desk. We develop a dynamic model of a BHC that encompasses both a trading
desk and a loan desk, and explore the role of risk attitude and overleveraging by the trading desk.
We trace the impact of monetary policy and market innovations on bank behavior in the presence
of Basel III type regulations. To our knowledge, this is a first such exercise. We show that the
value of the BHC is enhanced by operating both desks, even if they both are subject to common
market shocks. We explore alternative regulatory remedies to ongoing efforts to ring-fence the
proprietary trading business, and show that regulations that target bank governance can mitigate
possible rogue trading and the overleveraging problem.