On 13th and 14th of September, the SAFE Policy Center held its 4th SAFE Summer Academy, entitled “Liquidity and Bail-In”. Jan Pieter Krahnen, Program Director of the SAFE Policy Center, and Dietmar Schwarz, Head of the EU-Financial Market Policy Unit of the Representation of the State of Hessen to the EU, welcomed the participants from 14 different European nations, representing institutions involved in the legislation and implementation of financial markets regulation: the European Commission, the European Parliament, European regulatory and supervisory institutions, national ministries of finance and economics as well as the European Central Bank (ECB) and national central banks.
This year’s Summer Academy focused on the impact of regulation on market liquidity, including the consequences thereof on trading, as well as on the question of whether or not the bail-in regulation will work. Both topics have in common that they deal, to a large extent, with the broader topic of “unintended consequences” in the financial markets, as Krahnen noted in his introductory remarks.
In his opening keynote to the first day on market liquidity, Franklin Allen, Professor of Finance and Economics at the Imperial College London, gave an overview of the risks and other factors, including trading techniques, the different types of intermediaries or the asymmetry of information, as well as the regulation thereof, that have an impact on market liquidity.
Regulation and the market’s reaction
Allen joined the subsequent panel session to discuss with Christian Winkler (ESMA), Karsten Stroborn (Deutsche Bundesbank), Kai Wilhelm Franzmeyer (ResolutionManagement) and Stephen Fisher (BlackRock) the question “Has Liquidity suffered from Financial Market Regulation?”. The panelists elaborated on what market liquidity is and how regulation may influence the behavior of the different types of participants in the market.
In the first part of the following academic session, Erik Theissen (University of Mannheim) presented his joint research with Christian Westheide (SAFE) on “Designated Market Makers in Electronic Limit Order Books”. They find that market makers tend to provide liquidity particularly for small stocks and in volatile periods, and that they also stabilize prices in call auctions, but overall only incur small trading losses themselves.
In the second part of the session, Albert Menkveld (VU University Amsterdam) interactively answered the questions of the participants regarding his joint research with Vincent van Kervel on “High-frequency trading around large institutional orders”. He particularly focused on the behavior of high frequency traders in order to determine whether or not they lean against or “go with the wind”, and whether institutional investors feel the difference.
Jan Pieter Krahnen, who moderated all sessions, came to the conclusion that the discussions of this day demonstrated how the behavior of market makers and high frequency traders adapts to the external factors regulation and liquidity. As a consequence thereof, the market structure cannot simply be designed by regulators but is an endogenous result of the unpredictable reaction of market participants on changes to regulation and liquidity.
Bail-in – will it ever work?
Timo Löyttyniemi’s subsequent dinner speech on his experiences in his role as Vice Chair of the Single Resolution Board since 2015 gave already the introduction to the next day on the issue of bail-in.
Thorsten Beck, Professor of Banking and Finance at Cass Business School, kicked off the second day with his keynote on “Bailing in or bailing out: Quo vadis, Europe?”. He elaborated on the challenges of systemic crises, the legacy problems in Europe versus the full implementation of the forward looking banking union, and on the current stance on bail-in in southern Europe. Beck concluded that financial stability requires always a trade-off with efficiency aspects and suggests that bail-outs should not be entirely abolished. However, he called upon reducing their likelihood by fully implementing the banking union, and emphasized that a failure should not be prevented at any price.
In the final panel session on the question “Bail-In: Will it (ever) work?” José Manuel Campa (Banco Santander), Giorgio Gobbi (Banca d’Italia) and Levin Holle (BMF) discussed with moderator Jan Pieter Krahnen and the participants the challenges Europe and its member states are currently facing, and whether or not the bail-in regime is the appropriate answer in every single case.