Distance-to-Default in Banking: A Bridge Too Far?
Electronic Access:
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Summary:
In contrast to corporate defaults, regulators typically take a number of statutory actions to avoid the large fiscal costs associated with bank defaults. The distance-to-default, a widely used market-based measure of corporate default risk, ignores such regulatory actions. To overcome this limitation, this paper introduces the concept of distance-to-capital that accounts for pre-default regulatory actions such as those in a prompt-corrective-actions framework. We show that both risk measures can be analyzed using the same theoretical framework but differ depending on the level of capital adequacy thresholds and asset volatility. We also use the framework to illustrate pre-default regulatory actions in Japan in 2001-03.
Series:
Working Paper No. 2006/215
Subject:
Asset valuation Banking Capital adequacy requirements Deposit insurance Post-clearance customs audit
English
Publication Date:
September 1, 2006
ISBN/ISSN:
9781451864755/1018-5941
Stock No:
WPIEA2006215
Pages:
17
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