Contingent Capital And Risk Of Chinese Commercial Banks

After the global financial crisis starting from 2008,Basel III was implemented by the Basel Committee,which has been implementing a more stringent capital supervision requirement and raised capital quality standards,emphasizing the loss absorption function of capital.Therefore,commercial banks have been actively seeking effective ways of increasing capital buffer to meet higher capital requirements.Contingent capital,as an important tool of capital supplement for commercial banks,has been developed rapidly.Contingent capital provides an automatic mechanism to reduce debt scale and increase capital buffer through debt write-down or conversion to equity.Therefore,issuing contingent capital may help reduce risks for commercial banks and thus achieve stability of the financial system.There is no concensus in academia on whether the issuance of contingent capital could achieve the supposed objectives.Ever since the initiation of contingent capital issuance in 2013,fast development has been achieved in issuing contingent capital in China.Based on the practices of contingent capital issuance in Chinese commercial banks,this thesis explores the impact of contingent capital issuance on the risk-taking behavior and systemic risk of commercial banks,and put forward relevant policy suggestions on the development,implementation and risk management of contingent capital in China.The thesis consists of five parts as follows.Firstly,the thesis analyzes the current status of risk profile of Chinese commercial banks,as well as the development of contingent capital in China.The research also analyzes the development of contingent capital in other countries,and makes comparisons with that in China,so as to provide a practical foundation for the subsequent theoretical and empirical analysis.Secondly,the relationship between contingent capital and bank risk is theoretically analyzed.By establishing a three-stage discrete model to endogenize bank risk,the thesis analyzes the impact of issuing contingent capital on risk-taking incentives of banks.It is found that the impact of issuing contingent capital on bank’s risk-taking incentives is different for banks with different levels of leverage ratio,where contingent capital issuance reduces risk-taking incentives of highly leveraged banks,but increases those of lowly leveraged banks.Then a second bank is introduced into the model to analyze the impact of contingent capital issuance on systemic risk.It is found that if the negative externality caused by contingent capital conversion is greater than that by bankruptcy,contingent capital issuance will increase systemic risk,while the impact is uncertain if the former is less than the latter;the direction of effect is closely related to bank size.When bank size rises,if the negative externality of conversion increases faster(slower)than the role of bankruptcy,contingent capital issuance by larger banks will increase(decrease)systemic risk,otherwise it will decrease(increase)systemic risk.Thirdly,based on the data of Chinese commercial banks from 2013 to 2020,the impact of contingent capital issuance on banks’ risk-taking incentives is empirically investigated,and the inherent mechanisms are then explored.It is found that contingent capital issuance can significantly reduce risk-taking behavior of Chinese commercial banks.Banks’ leverage ratio and capital adequacy ratio are two major channels of this influence.Different bank leverage ratios and sizes can also lead to different impacts:contingent capital issuance can reduce the risk-taking incentives of highly leveraged banks,while quite the opposite for lowly leveraged banks.Contingent capital issuance tends to reduce the risk-taking incentives of small banks.Fourthly,based on the data of Chinese commercial banks from 2013 to 2020,the impact of contingent capital issuance on bank systemic risk is empirically investigated,as well as the possible mechanisms.It is found that the issuance of contingent capital significantly increases systemic risk in Chinese commercial banks.A significant mediation effect is identified by influencing banks’ capital adequacy ratio and leverage ratio.The research then conducts a heterogeneity analysis by dividing the sample based on whether the bank is a systemically important bank,and finds that the issuance of contingent capital by non-systemically important banks increases systemic risk by increasing their capital adequacy ratio and leverage ratio,while that by systemically important banks has no significant impact on systemic risk.Therefore,the impact of contingent capital issuance on systemic risk identified in the full sample comes mainly from non-systemically important banks.Heterogeneity analysis based on bank profitability and bank connectedness shows that banks with higher profitability tend to increase systemic risk by issuing contingent capital,while the impact is smaller for banks with more inter-bank liabilities.Finally,combined with the theoretical and empirical findings,several policy suggestions on risk management of Chinese commercial banks are proposed,so as to promote the development of contingent capital and maintain a steady development of the commercial banks in China.Suggestions include to classify and guide the scale of contingent capital issuance by banks with different leverage ratios,to strengthen the supervision of information disclosure of commercial banks,to prudently approve the issuance qualification and size of contingent capital issuance by small and medium-sized banks,and to enlarge the issuance scale of equity conversion contingent capital and the coverage of market participants in contingent capital investment.The innovations of this paper include the following four aspects.Firstly,the thesis integrates the risk-taking and systemic risk of commercial banks into a unified analysis framework,which enriches the existing theoretical research.Secondly,the essay deeply analyzes the influence mechanism of contingent capital issuance on the risk of China’s commercial banks,which expands the perspective of contingent capital research.Thirdly,the research uses a variety of empirical methods to identify causality and deal with endogeneity problems,which enriches the empirical research on the impact of contingent capital on commercial bank risk.Fourthly,the inclusion of non-listed banks in the research expands the sample data,which not only enables a more comprehensive analysis of China’s actual problems,but also enables to conduct better heterogeneity analysis and helps to provide differentiated policy suggestions.