Did the market signal impending problems at Northern Rock? An analysis of four financial instruments

Maximilian Hall, Paul Hamalainen, Adrian Pop and Barry Howcroft
Additional contact information
Paul Hamalainen: University of Essex, Colchester, Essex, England, CO4 3SQ
Adrian Pop: University of Nantes, 44322 Nantes Cedex 3, France
Barry Howcroft: Loughborough University, Loughborough, Leicestershire, England, LE11 3TU

Discussion Paper Series from Department of Economics, Loughborough University

Abstract: The academic literature has regularly argued that market discipline can support regulatory authority discipline to monitor banking sector stability. This includes, amongst other things, using forward-looking market prices to identify those credit institutions that are most at risk of failure. The paper’s key aim is to analyse whether market investors signalled potential problems at Northern Rock in advance of the bank announcing that it had negotiated emergency lending facilities at the Bank of England in September 2007. A further aim of the paper is to examine the signalling qualities of four financial market instruments so as to explore both the relative and individual qualities of each. Therefore, the paper’s findings contribute to the market discipline literature on using market data to identify bank risk-taking and enhancing supervisory monitoring. In addition, the paper tests for evidence of an implicit “too-big-to-fail” policy in UK banking. Our analysis suggests that private market participants did signal impending financial problems at Northern Rock in advance of the bank announcing that it had negotiated emergency lending facilities. These findings lend some empirical support to proposals for the supervisory authorities to use market information more extensively to improve the identification of troubled banks.

Keywords: Banking regulation; bank failures; market discipline; early warning signals. (search for similar items in EconPapers)
JEL-codes: G14 G21 G28 (search for similar items in EconPapers)
Date: 2008-10, Revised 2008-10
New Economics Papers: this item is included in nep-ban, nep-reg and nep-rmg
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Citations: View citations in EconPapers (2)

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Related works:
Working Paper: Did the Market Signal Impending Problems at Northern Rock? An Analysis of Four Financial Instruments (2010)
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