Bank Diversification and Risk Management

Project Start:05/2014
Category: Financial Intermediation
Funded by:LOEWE

Financial institutions exhibit a unique risk management possibility due to the combination of deposit taking and lending decisions. By supporting lines of credit via non-transaction deposits, banks can actively manage their exposure to liquidity risk. The project examines empirically whether and how the geographic diversification of banks affects their risk management possibilities. Greater geographic diversification, on the one hand, insulates banks from adverse shocks to lending if shocks across areas are not perfectly correlated. This decreases their exposure to liquidity risk. Raising deposits from different areas, on the other hand, exposes banks to idiosyncratic funding shocks, which limits their risk management possibilities. The team uses regulatory data on publicly traded bank holding companies (BHC) in the U.S. and information on the removal of interstate banking restrictions to identify the causal effect of geographic diversification on bank risk.

Results show that geographic diversification lowers risk. This effect is robust and not sensitive to alternative definitions of risk. The paper was accepted for publication in the Journal of Financial Economics at the beginning of July 2015.


Related Published Papers

Author/sTitleYearProgram AreaKeywords
Martin Götz, Luc Laeven, Ross LevineDoes the Geographic Expansion of Bank Assets Reduce Risk?
Journal of Financial Economics
2016 Financial Intermediation Banking, Bank Regulation, Financial Stability, Risk, Hedging, Business Cycles, Industrial Structuree