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Capital Requirement and Financial Regulations in Banking: Are They Effective?
by Dr Rubi Ahmad
This article describes the role of capital and capital requirement in the banking industry. Using an accounting definition, bank capital refers to common stocks, surplus and undistributed profits. This capital, among other things, acts as a cushion or buffer to absorb unexpected losses. When these losses exceed this buffer amount, bank failure occurs. Since a single bank failure may prove contagious as observed in the 1997 Asian crisis, bank capital position should not be allowed to erode. Because of this, regulators regulate the level of capital in the banking firms. Hence, regulatory capital refers to the minimum amount of equity capital that banks must maintain to comply with regulatory requirements. Bank capital and default, however, are not always inversely related as proven in past studies. Accordingly, this article also explains why a stringent capital requirement does not necessary reduce the probability of bank failure.
Like other forms of regulations, the announcement of new capital requirements can have both good and bad effects on the targeted financial institutions and markets. Capital requirements create pressure on the targeted financial institutions: in this case there is pressure to maintain higher capital ratios and to hold a higher percentage of equity capital per loan than per government security. Loans are riskier than securities, so bank risk-taking presumably falls as banks shift their portfolios away from loans and into securities. Increasing capital requirements can result to rise rather than reduce bank risk. Instead of switching to less risky assets, capital requirements can motivate banks to take greater risk by holding more risky assets. Evidently, there is no guarantee that capital requirements will lead to greater stability and wealth for banks.
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The US Patriot Act: Increased Regulatory Challenges for International Banks
by John J Maalouf
International banks are accustomed to extensive legal scrutiny by banking regulators in the US. International banks seeking to establish offices in the US are required to abide by various approval, notice and licensing requirements, as well as by numerous restrictions on their activities. However, in the wake of the events of 11 September 2001, international banks have become subject to even greater regulatory scrutiny. The USA Patriot Act, signed by President George W. Bush on 26 October 2001, stands for “Uniting and Strengthening America by Providing Appropriate Tools Required to Intercept and Obstruct Terrorism”. Deterring terrorist financing has, understandably, become one of the foremost priorities for the US government today. Unfortunately, as a consequence of the Patriot Act, international banks have been put in the untenable position of having to discern, solely from seemingly routine deposits, withdrawals or fund transfers, which of these transactions are innocent and wh ich may be used to fund terrorist activities.
As numerous US banks conduct business around the world, there would appear to be little or no logical reason to draw regulatory distinctions between those banks and international banks with US operations. It is an unfortunate reality that terrorist groups could just as easily utilise US banks with international operations to finance their activities as they could use an international bank operating in the US. However, in some instances, the Act puts an international bank, which statistically maintains accounts for and conducts transactions with more non-US citizens, under greater scrutiny and more arduous restrictions than a similarly situated US bank. Moreover, in numerous instances, an international bank may find that it faces greater regulatory hurdles in complying with the Act provisions than do its US counterparts.
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Ownership Structure and Corporate Governance: Further Evidence from Malaysia
by John Tee Chwee Ming, Chan Sok Gee & Chong Lee Lee
The main objective of this study is to examine the impact of ownership structure on the corporate performance of Malaysian public-listed companies from 2002 to 2004. The results show that Malaysian companies diverge significantly compared to that which was found in earlier studies for American companies. Insider and institutional equity shareholdings do not appear to influence the corporate performance of Malaysian public-listed companies. The results obtained seem to suggest that institutional shareholders had failed in their monitoring role and corporate governance standards, initiated since 2000 on Malaysian companies, had also failed to influence shareholder value creation. In addition, there is no evidence of non-linear function. Subsequently, the study was extended by segmenting the companies according to market capitalisation. Except for big market cap companies, there is no significant change in results. In the case of big market cap companies, insider and institutional shareholding have a significant relationship with corporate performance. Insider shareholding has a negative relationship with dividend yield while institutional shareholding is positively related to dividend yield. The former could be due to management’s resource allocation decisions that do not return excess capital to shareholders while shareholders’ interests are protected when institutional shareholders play an effective monitoring role.
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Sukuk: Shariah-Western Law Matrix
by Prof Mahmood Faruqui
Sukuk are the fastest growing Islamic asset class. Investors expect two basic qualities in sukuk. First, Shariah compliance. Second, efficient enforcement. The deal structure must show a market acceptable Shariah-Western law matrix. This article briefly looks at the recent key qualitative developments of sukuk, and discusses the Shariah elements and Western law elements.
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Monetary Policy and Macroeconomic Shocks in Malaysia: Evidence from the Aggregate Demand-Aggregate Supply Model
by Dr Tan Juat Hong
Using the Blanchard-Quah (1989) aggregate demand/aggregate supply model, the study examines the effects of macroeconomic shocks on monetary policy decisions for the Malaysian economy. The long-run neutrality is imposed so that temporary (aggregate demand) shocks have no effect on output growth. But permanent (aggregate supply) shocks would affect output growth. Empirically, the economy does subscribe to the textbook aggregate demand/aggregate supply model. Using a reaction function, it fi nds that monetary policy tends to respond more vigorously to aggregate demand shocks than to aggregate supply shocks. Monetary policy responds positively to aggregate demand shocks; while negatively to aggregate supply shocks.
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