Essays in banking

Taburet, Arthur (2023) Essays in banking. PhD thesis, London School of Economics and Political Science.

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Abstract

This thesis consists of three essays on household finance and banking. The first chapter, co-authored with Alberto Polo and Quynh-Anh Vo from the bank of England, examines the role of menus of contracts in the UK mortgage market. Using data from the UK mortgage market and a structural model of screening with endogenous menus, I quantify the impact of asymmetric information on equilibrium contracts and welfare. I show that when lenders screen borrowers using a menu, they generate a contractual externality by making the composition of their competitors’ borrowers worse. Counterfactual simulations of a social planner problem show that, because of the externality, there is too much screening along the loan-to-value dimension. The deadweight loss, expressed in borrower utility, is equivalent to an interest rate increase of 30-60 basis points (a 15-30 percent increase) on all loans. The second chapter theoretically analyses the interaction between competition and adverse selection in markets where menus are used. Using a discrete choice approach to model competition, I characterise the unique pure strategy Nash equilibrium in a contract theory model with adverse selection and imperfect competition. I highlight a novel contractual externality leading to a welfare trade-off between competition and adverse selection. Lowering competition lowers concerns of losing market shares; this can improve welfare by giving lenders more flexibility on how to use contract terms and prices to sort borrowers efficiently. It also lowers lenders’ incentives to implement socially inefficient strategies that rely on taking advantage of their competitors’ menus to attract only low-cost borrowers (cream-skimming). However, low competition also allows lenders to apply high mark-ups, reducing borrowers’ utility. When the externality is high, lowering competition leads to a Pareto improvement. The third chapter theoretically studies the impact of designing lender-specific capital regulation regimes. To that end, I build a novel model of banking in which setting individualized capital requirements allows to better deal with each lender’s excessive lending behaviour. However, creating different capital requirements also increases lenders’ fixed cost of understanding and interpreting the regulation. Changes in the fixed cost endogenously affect the market structure and bank interest rate markups. Those changes feed back into lenders’ incentives to over-lend. Due to this general equilibrium effect, I show that increasing capital requirement heterogeneity can increase the friction it was designed to reduce. Motivated by this theoretical result, I develop a sufficient statistic approach to empirically assess the impact of capital requirement complexity on welfare.

Item Type:	Thesis (PhD)
Additional Information:	© 2023 Arthur Taburet
Library of Congress subject classification:	H Social Sciences > HB Economic Theory H Social Sciences > HG Finance
Sets:	Departments > Finance
Supervisor:	Gavazza, Alessandro and Oehmke, Martin and Paravisini, Daniel and Reis, Ricardo
URI:	http://etheses.lse.ac.uk/id/eprint/4680

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