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    Sometimes it is useful not to forget

    Fatih Özatay, PhD31 May 2011 - Okunma Sayısı: 947


    An academic study concluded that many banks did not learn from the 1998 crisis and that the risk culture did not change.

    A web site I mentioned a couple of times presents the summary of an interesting academic study with an understandable and clear language. The study makes reference to the name of a book that was published during the crisis and was also translated into Turkish. Those interested in financial crises will probably remember the name of the book: "This Time is Different".

    The study I mentioned is titled: "This time is the same: Using Bank Performance in 1998 to Explain Bank Performance during the Recent Financial Crisis". The 1998 crisis refers to the Russian crisis. On August 18, 1998, Russian government defaulted on its debt for state bonds, which drag a number of countries into trouble. Turkey was among those, too. Upon the declaration, an important US-based financial institution which had hold substantial amounts of Russian bonds also faced severe difficulties. In this period, global markets were shaken, risk appetite decreased and some economies contracted. 

    German and French banks will be affected
    Meanwhile, let me add something. The above paragraph clearly explains why we frequently discuss to what extent the banking systems of the countries at the heart of the European Union, Germany and France in particular, will be affected by the recent developments in Greece, Ireland, Spain, and Portugal. If the countries in the latter group face any trouble and/or default on their debts for state bonds, banks who have lent to these states and their banks will be affected negatively. And these predominantly are German and French banks. Anyway...

    The study I talked about firstly analyzes the difference between the returns of banks in July 2007 - December 2008 and the returns of banks during the 1998 crisis. The authors prove that the adverse stock market performance of banks during the 2008 crisis can explain the adverse stock market performance of those banks during the 1998 crisis. What is more, the significance of this correlation equals to bank's leverage at the outset of the crisis. A notification: banks which extended credits at a magnitude considerably above their capital at the outset of the crisis (high leverage banks) were generally those who were affected by the crisis at the highest degree. 

    Most of banks did not learn from the 1998 crisis

    After some tests, the authors reject the hypothesis that banks have learned from the crisis and altered their business models, and decide that banks still pursue the behavior mode that I call "the same old story". In short, they conclude that many banks did not learn from the 1998 crisis and that the risk culture did not change. That is, they state that many of the banks continued to rely on high leverage and short-term funding, and to fuel the credit expansion during and after economic booms.

    There also would be academic studies arguing the opposite. But this is not what matters.  Marie-Jeanne Rose Bertin (1747-1813), milliner and dressmaker to Queen Marie-Antoinette, once said: "There is nothing new except what is forgotten." What matters is not to forget.

    Those who are interested can read the summary of the study at the below link: 'Do banks learn from crises?', R. Fahlenbrach et al, May 27, 2011, www.voxeu.org.

     

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