TY - JOUR

T1 - Financial penalties and banks’ systemic risk

AU - Köster, Hannes

AU - Pelster, Matthias

N1 - The authors would like to thank Bonnie Buchanan (the editor), three anonymous referees, the participants of the workshop of the German Operations Research Society and the 2017 RiskLab/BoF/ESRB Conference on Systemic Risk Analytics for their valuable comments and suggestions. Jessica Lawniczak, Simon Kürschner and Kristin Prinzke provided outstanding research assistance. Financial support from the Förderverein Bank- und Finanzwirtschaft e.V. (FVBF) is gratefully acknowledged. All remaining errors are the authors’ own.

PY - 2018

Y1 - 2018

N2 - Purpose: The purpose of this paper is to analyze the impact of financial penalties on the stability of the banking sector. Design/methodology/approach: A unique database of 671 financial penalties imposed on 68 international listed banks between 2007 and 2014 and a fixed-effects panel data approach were used. Findings: The results show that financial penalties increase banks’ systemic risk exposure but do not significantly affect banks’ contribution to systemic risk. Additionally, the link between financial penalties and systemic risk exposure is weaker in regulatory and supervisory systems with more prompt corrective power among national authorities. By contrast, supervisory authorities’ stronger power to declare insolvency and a greater external monitoring culture exacerbate the positive effects of financial penalties on systemic risk exposure. Practical implications: The punishment of misconduct should correct the social harm and prevent future misconduct while ensuring the banking system’s stability. Therefore, authorities should punish misconduct by implementing penalties against the financial institutions at a specific amount that offsets the damages of misconduct but does not threaten systemic stability. Penalties against institutions may be complemented by financial penalties against upper management to induce a more responsible culture in banks. Originality/value: This paper is the first to study the effect of financial penalties on the stability of the financial system. The results contribute to the ongoing debate on the appropriateness of financial penalties and address the question of whether bank regulators reduce or contribute to banks’ systemic risk.

AB - Purpose: The purpose of this paper is to analyze the impact of financial penalties on the stability of the banking sector. Design/methodology/approach: A unique database of 671 financial penalties imposed on 68 international listed banks between 2007 and 2014 and a fixed-effects panel data approach were used. Findings: The results show that financial penalties increase banks’ systemic risk exposure but do not significantly affect banks’ contribution to systemic risk. Additionally, the link between financial penalties and systemic risk exposure is weaker in regulatory and supervisory systems with more prompt corrective power among national authorities. By contrast, supervisory authorities’ stronger power to declare insolvency and a greater external monitoring culture exacerbate the positive effects of financial penalties on systemic risk exposure. Practical implications: The punishment of misconduct should correct the social harm and prevent future misconduct while ensuring the banking system’s stability. Therefore, authorities should punish misconduct by implementing penalties against the financial institutions at a specific amount that offsets the damages of misconduct but does not threaten systemic stability. Penalties against institutions may be complemented by financial penalties against upper management to induce a more responsible culture in banks. Originality/value: This paper is the first to study the effect of financial penalties on the stability of the financial system. The results contribute to the ongoing debate on the appropriateness of financial penalties and address the question of whether bank regulators reduce or contribute to banks’ systemic risk.

KW - Management studies

KW - Systemic risk

KW - Bank regulation

KW - Financial penalties

KW - Bank fines

KW - Misconduct

KW - Misconduct

KW - Bank regulation

KW - sytemic risk

KW - bank fines

KW - financial penalties

KW - G01

KW - G21

KW - G28

UR - http://www.scopus.com/inward/record.url?scp=85045653245&partnerID=8YFLogxK

U2 - 10.1108/JRF-04-2017-0069

DO - 10.1108/JRF-04-2017-0069

M3 - Journal articles

VL - 19

SP - 154

EP - 173

JO - Journal of Risk Finance

JF - Journal of Risk Finance

SN - 1526-5943

IS - 2

ER -