Prior, during and in the aftermath of the Great Financial Crisis (GFC), banking has been undergoing fundamental changes. Following the major fallouts of large banking groups—in particular those with excessively risky business models , combined with the trillions incurred in losses and a wave of taxpayers-funded bailouts —a wave of re-regulation was undertaken to restore eroded market confidence and to safeguard financial stability . This led to major restructuring and waves of deleveraging, consolidation and emergence of new forms of finance with fundamental implications for the future of the financial intermediation .
In this changing context of evolving market structures and financial regulations , the bank business models (BBM) analysis emerged as a policy tool to better understand the nature of risk attached to banks and the relative contribution to each identified business model to systemic risk throughout the economic cycle .
The business models analysis for regulatory purpose was first introduced by Ayadi et al. (2011) in an initial attempt to screen and identify the business models of 26 European banking institutions and to assess their performance between prior and during the GFC, between 2006 and 2009. The exercise permitted a precise understanding of the balance sheet structure of banks and applied a data-driven simple clustering analysis to identify the business models of a small number of banks for regulatory purpose. The identification method showed the existence of three bank business models and indicated that the retail banking model has fared better through the crisis in terms of performance, compared to the other identified business models, namely investment business model and wholesale business model , which displayed very risky behaviour before and during the financial crisis years. Business models analysis also proved to be relevant in that it demonstrated the unsuitability of the one-size-fits-all Basel regulatory requirements . In a subsequent research work by the same authors, Regulation of European Banks and Business Models: Towards a New Paradigm, Ayadi et al. (2012) shed light on the limitations of the Basel Tier 1 capital ratio and, hence, the Basel II risk-weights system and not only recommended the inclusion of a legally binding leverage ratio to tackle these regulatory limitations but also confirmed that regulatory requirements (capital, liquidity and leverage) should be adapted to bank business models to ensure they are better aligned with the underlying risk profiles of the different business models of banks. The authors also suggested an annual monitoring exercise of bank business models to better understand their evolution within macro- and micro-economic contexts. To test the relevance of this approach, the first pilot exercise on monitoring the business models of 147 banks in Europe was released in December 2014 in Ayadi and De Groen (2014). For the first time, a diverse dataset of banks of differing sizes and ownership structures was analysed using an easy applicable clustering methodology to identify business models and a new analytical framework was used to assess business models that included performance, risk and response to regulation. The findings reinforced previous conclusions and prepared the ground for more generalisation with larger datasets and more countries. In January 2016, a more comprehensive monitoring exercise was launched (Ayadi et al. 2016), which extended the sample from 147 banks to 2542 banks in 32 European countries, covering more than 95% of total assets of the European Union plus European Free Trade Association (EFTA) countries from 2005 to 2014 and accounting for 13,040 bank-year observations. The European Bank Business Models Monitor attempted to address the diversity of bank sizes and ownership structures in European countries and, hence, identify the response function of each business model in a crisis situation . In 2017, the same exercise was extended to US (Ayadi et al. 2017) and Canada (published in this book) to test whether the BBM analysis concept and approach can be used in other countries. The BBM research team will continue updating the dataset and expanding the data collection to other regions in the world thanks to a novel and broad definition tested and adopted to define a business model in banks (and other similar institutions such as credit unions).
The datasets and annual BBM analysis will be open access for research purposes (www.BBM research.com).
This book reviews the reasons and the process, describes the datasets in Europe, US and Canada, and details the methodology, computations and analysis used to develop the BBM analysis framework. It explains the relevance of this new framework for financial stability assessment and future of regulation and resolution.
First, it provides an overview on the evolving role of banks in the financial system —with a focus on why banks changed their business model over the past decades and how the economics literature explained it. Second, it proposes a definition after reviewing the literature on business models and banking and describes the datasets collected in Europe, US and Canada and the methodology used to identify business models in banks (and in credit unions in US and Canada subject to data availability) based on the book author’s past and ongoing research. Third, it explains how the business models analysis can be a tool for financial stability assessment and can serve as a pillar for the future of regulation and resolution. Fourth, it provides the BBM assessment including the links with ownership and organisational structure and size, the migration of business models , the assessment of performance and risks , and how different business models respond to the exiting one-size-fits-all regulation and resolution using comprehensive datasets of banks in Europe, US and Canada.
The book is organised into 12 chapters and 7 appendices. Following the introduction, Chap. 2 delves into the reasons why business models in banks evolved as they did prior and in the aftermath of the GFC and provides key explanations from the literature on banking from economics and policy perspectives. Chapter 3 provides a novel definition of business models in banks after reviewing the literature on business models and banking and explaining the business model concept relevance to better understand what banks do. Chapter 4 describes the datasets of banks in Europe, US and Canada (and credit unions when data is available) studied and the methodology employed to identify business models in banks (and credit unions). Chapter 5 describes how business models in banks can be used in financial stability assessment. Chapters 6, 7, 8, 9, 10, and 11 offer the analysis on the interaction between business models, ownership, organisational structures and size, the analysis of migration of bank business models, the assessment of performance and risk and the response per bank business model to regulation and resolution. Finally, Chap. 12 concludes.
Most of the appendices provide supporting technical information about the banks surveyed and the methodology used.
References
- Ayadi, R., E. Arbak and W.P. de Groen (2011), Business Models in European Banking: A pre-and post-crisis screening, Centre for European Policy Studies (CEPS), Brussels.
- Ayadi, R., E. Arbak and W.P. de Groen (2012), Regulation of European Banks and Busine...