How does currency diversification explain bank leverage procyclicality ?

The amplitude of leverage procyclicality is heterogeneous across banks and across countries. This paper introduces international diversification of bank balance sheet as a factor of this observed heterogeneity, with a special emphasis on currency diversification. Theoretically, the impact of international diversification on leverage procyclicality depends on the relative performance of economies, the global business cycle and the exchange rate regime. Using granular data on banks located in France, I show that the pre-crisis international diversification of banks increased leverage procyclicality during the 2008-2009 crisis. Focusing on the foreign exchange rate impact, namely the valuation effect of currency diversification, my results suggest that it had a negative effect on leverage procyclicality during this period. These findings draw attention to the specific role of balance sheet currency diversification in financial stability risk.

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How does currency diversification explain bank leverage procyclicality ?
  • Published on 12/03/2018
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Updated on: 12/03/2018 15:19