ECB Report Examines Window-Dressing Behavior in G-SIB Framework

The paper describes the data used and the current institutional setup to calculate the G-SIB risk score; introduces the methodology to investigate whether banks have been incentivized to window-dress, and the potential role played by capital market activities. The findings of the paper suggest that banks participating in the G-SIB exercise are more likely to reduce activities affecting the additional buffer requirements for G-SIBs at the end of the year, relative to the other banks in the sample. Furthermore, the effects are stronger for banks that are relatively close to a threshold between two buckets associated with different additional buffer requirements (which may have stronger incentives to window dress) and for banks with a larger amount of repo market activities that can be terminated relatively easily at reporting dates. The former result supports the view that it is indeed the G-SIB framework that is incentivizing the reduction in activities affecting the G-SIB score at year-end, rather than other factors such as contributions to the Single Resolution Fund or bank levies in a number of countries that are also based on year-end balance sheet data.

Overall, the study illustrates that G-SIB scores tended to decline over the sample period, in line with intention of the G-SIB framework to reduce the systemic footprint of banks. However, the regulatory context might have incentivized some banks to window-dress. This may imply a distortion in the relative ranking of the systemic importance of banks and may have adverse effects on the functioning of capital markets and on the provision of financial services, as banks reduce certain activities toward the end of the year. Against this background, further investigation could be warranted to understand whether an alternative metric for the risk score calculation might help to avoid the unintended consequences of the G-SIB framework while guaranteeing a smooth decreasing trend in the systemic importance of banks. Such alternative metrics are already being explored for the leverage ratio framework and could be extended further throughout the regulatory framework.

Related Link: Working Paper (PDF)

Keywords: International, Europe, Banking, Window Dressing Behavior, Systemic Risk, Single Resolution Fund, G-SIBs, G-SIB Framework, ECB