Institutions

The research program Institutions covers all financial aspects of the optimal organization, regulation, and management of institutions. As of mid-2024, Luxembourg hosted 116 commercial banks with roughly 26,586 people employed, as well as 15,013 people employed in the insurance sector.[1] In addition, Luxembourg is home to the Banque Centrale du Luxembourg (BCL) and other financial supervisory agencies, such as the Commission de Surveillance du Secteur Financier (CSSF), the European Stability Mechanism (ESM), and the European Investment Bank (EIB).

Financial institutions are particularly affected by regulations and central bank policies. Our research in this program is highly relevant for the financial sector, especially considering its challenges since the financial crisis, the sovereign debt crisis, the creation of the European Banking Union, and the pandemic crisis, as well as during times of high inflation and uncertainty about monetary policy. This program covers questions of optimal ex-ante regulation and ex-post resolution of financial institutions and explores the unintended consequences of conventional and unconventional monetary policies on financial and non-financial firms. Under the research program Institutions, we also explore more fundamental questions related to corporate finance, such as the determinants of firm financing under frictions that affect their financing constraints.

Our research in the field of banking addresses several critical questions: What are the optimal bank resolution strategies within a banking union? How should a fiscal backstop be designed to address asymmetries between member countries? How do central bank policies affect fire-sale risks and financial stability? Our research assesses the effects of regulations such as reserve requirements, capital requirements, and supervision on bank risk-taking and the supply of credit to firms. Our research also addresses the importance of bank branches in light of the financial technology revolution we are witnessing and the wave of branch closures all over the world. We analyze the role of credit scoring in substituting loan officers’ soft information and explore the unintended consequences of closing bank branches for local economies. We further delve into the interplay between non-price loan terms and competition in credit markets, revealing how regulatory changes influence borrowers’ choices between regulated banks and shadow banks. Additionally, we study the interaction between solvency and liquidity risks of banks, assess systemic risk measures, and the regulatory frameworks needed to manage such risks effectively.

On the corporate finance side, our research investigates key questions such as: How do financial frictions impact corporate policies and firm valuation? To address this, we build and estimate dynamic models of corporate investment and financing, focusing on limited enforcement, moral hazard, and trade-off models to identify the relevant sources of firms’ financing constraints. Another key question is what determines corporate liquidity management, specifically how firms use cash and credit lines to manage liquidity needs and the impact of collateral constraints and covenants on these decisions. We also explore the connection between rising intangible capital and the upward trend in corporate cash holdings, examining how the shift toward intangible assets reduces firms’ debt capacity and increases cash reserves. These questions are essential for understanding how firms navigate financial frictions and optimize their investment and financing decisions to support sustainable corporate growth.

[1] Sources : CSSF (https://www.cssf.lu/wp-content/uploads/Financial_centre_July_2024.pdf, visited August 5, 2024), and CAA (https://www.caa.lu/uploads/documents/files/rapport_annuel_2023-chiffres_cles.pdf, visited August 5, 2024).