What Explains the Difference in Leverage between Banks and Nonbanks?

Abstract

Banks have much more leverage than nonbanks. In this article, we use a joint sample of banks and nonbanks between 1965 and 2013 to analyze the determinants of this leverage difference. We find that a single factor, asset risk, is able to explain up to 90% of this difference. Banks’ assets consist of a diversified portfolio of nonbank debt. Therefore, banks have much lower asset risk than do nonbanks. Because asset risk is a major determinant of capital structure choice, this factor is able to explain a large fraction of the difference between bank and nonbank leverage.

How Financial Leverage Differs Between Conventional and Islamic Banks: A Dynamic Model Perspective of Banking Sector in Pakistan

“…In contrast to standard pure regulatory view on bank capital structure (Regulation and Buffer view) market view on bank capital structure advocates that market forces and determinants explain bank capital structure. So, conferring to market view regulatory requirement and buffer can't be first order determinants of bank capital structure as evident from Gropp and Heider (2010) and Berg and Gider (2017). Capital structure resulted by the debt holders, depositors and by shareholders expectations build pressure as a result of which the banks adjust capital leverage.…”

“…However, some empirical evidences report significant departure from this view and support market view of capital structure; claiming that firm specific and market based factors also have explanatory power to determine capital structure of financial institutions (Gropp & heider, 2010). Berg and Gider (2017) in their study "What explains the differences in leverage between banks and nonbanks" elaborated the differences between banks and nonbanks financial leverage. They explored common explanatory factors of leverage for US banks like size, profitability, tangibility and dividend, etc.…”

“…They explored common explanatory factors of leverage for US banks like size, profitability, tangibility and dividend, etc. Addition to borrowed factors from Berg and Gider (2017), this study also combined with other theoretically relevant factors. Firm level factors include size, profitability, tangibility, growth, Non-Debt Tax Shield (NDTS) and dividend.…”

“…Theory argues that large banks are well diversified in terms of borrowing and lending through capturing diversified regions and markets; hence their idiosyncratic risk is comparatively less, requiring less precautionary capital to maintain (Flannery & Rangan, 2008). Moreover, larger banks usually face lower cost and coerces to raise their capital as compared to smaller banks Similarly, while talking about financial firms, tax changes are being used in banks studies as an explanatory as well as control variable (Berg & Gider, 2017;Gropp & Heider, 2010). The scope of NDTS is broadly captured through depreciation, tax credits, research and development, staff training and Corporate Social Responsibility (CSR).…”

Interactions between Regulatory and Corporate Taxes: How Is Bank Leverage Affected?

“…Still, banks tend to be more leveraged than nonfinancial firms. Berg and Gider (2017) find that this difference is largely explained by 1 Kogler (2016) discusses theoretically the interaction effects between corporate taxation and levies for the pass-through of bank levies to customers in terms of lending rate increases. If the levy payment is not tax deductible, as in Germany or the UK, the pass-through is expected to be stronger than in countries where the levy payment can be deducted so that double taxation is prevented.…”