E-Book, Englisch, 61 Seiten
ISBN: 978-3-656-39580-5
Verlag: GRIN Publishing
Format: PDF
Kopierschutz: Kein
Autoren/Hrsg.
Weitere Infos & Material
Chapter 1 Introduction
The introduction chapter presents the background information of the study “why banks fail: A case study of Northern Rock, Lehman brothers, and Union Bank of Switzerland (UBS)?” This is then followed by the problem statement and purpose of this research. 1.1 Background information
Bank failures are common occurrences that happen in many countries across the world; certainly each country has witnessed one of its bank failure at one point or another (Basu, 2002). The cost that accompanies bank failure can be huge, and this destabilises the financial system of a country, which consequently impacts the country’s economic growth rate. Accordingly, the government or the central bank of the concerned country has to intervene by providing a rescue deal for the collapsing banks. However, such rescue deals are costly and difficult to provide particularly in this competitive business environment (Donaldson, 1993). Though, banks failure seem to occur more in those countries that have liberalised their financial markets and carried out deregulated, there are also common in countries where banks have dished out bad loans and undertaken a high percentage of non-performing loans, a common aspect in countries that were in the past highly regulated and depended on government subsidies to survive. This brings us back to our question; why do banks fail? Owing to the experience learned from the Great Depression, many scholar such as Wigmore (1987), claimed that bank failures, mainly arose from the panic by depositors, which results in a run on the bank. According to Wigmore (1987) the cause of this panic may be due to speculative attack on the stock of the banks, or as noted by Diamond & Dyvbig, (1983); Donaldson (1993) illiquidity shocks, or according to Calomiris & Gorton (1991) due to shocks suffered by the banks’ asset value. From the above causes, one can note that the main cause of depositors’ panic is information asymmetry that exits between the banks and their depositors. The consequence of this is that the depositors are unable to know whether a particular bank is stable or unstable. However, the depositors can watch the effect of the shock on the bank’s portfolios, which lead in a run on that particular bank, resulting in bank failure (Bhattacharya & Thakor, 1993) When a bank fails, stakeholders normally suffer negative consequences, besides the consequences suffered by the failed bank. At times the consequences are also suffered by the non-banking industries. As observed by Smith & Walter (1997) a bank failure results in loss of employment and livelihood, financial growth as well as other related public interests. Hooks (1994) contributing this subject underscores that bank failure greatly affects the economy in a negative way, and therefore it should be examined very critically. Kaufman (1996) has also stressed the bank failure and the associated consequences. Accordingly, Kaufman (1996) states that banking failure creates losses to stakeholders through the interference that occurs to the settlement system; more so, it has a systemic impact on the whole economy. Similarly, Caprio & Klingebiel (1999) in their study of 114 cases of bank failure in 46 countries, they established that bank failure has negative impact on the economic development. Northern Rock was the one of the biggest casualty of the global financial crisis that occurred between 2007 and 2009. During this period, the bank faced liquidity problems, and was forced to borrow from the Central Bank of England to resolve its liquidity issues. However, things did not change and depositors got afraid of the situation promoting them to withdraw their savings from the bank. This resulted in a bank run, and Northern Rock had to be nationalized in 2008 (Stucke, 2008). In an attempt to resolve the financial issues surrounding the bank, the bank was privatised in 2011 to Virgin Money. Lehman Brothers became bankrupt on 15th September 2008. At that time the bank had an assert base worth 639 billion dollars and debts worth 619 billion dollars. As noted by investopedia.com, the bankruptcy of Leman was the biggest in history of bank failure, since its asset was much more than those of past bankrupt huge organisations such as WorldCom and Enron. Indeed, Lehman Brothers was the fourth-biggest American investment bank when it collapsed. At the same time, Lehman’s collapse as well marked the largest victim of the US financial crisis that affected global financial markets. According to investopedia.com (2009), this was an changing moment that highly worsened the 2008 financial crisis and resulted in a loss of about $10 billion trillion in terms of market capitalization from global financial market (investopedia.com, 2009). UBS is the biggest Swiss bank with a global presence in more than 40 countries (Krystof et al., 2012). The bank has been in operation for more than hundred years. UBS offers usual banking services (e.g. saving and deposit services), investment banking as well as wealth management services. The bank as many Swiss banks, is known for its confidentiality and fidelity. When Union Bank of Switzerland and Swiss Bank Corporation merged in 1988, it became UBS (Krystof et al., 2012). This merger saw UBS outgrow the market considerable in profits and assets; a high proportion of its growth was from its investment division. As at 2006, UBS was one of the biggest banks globally with more than $2trillion worth of assets (Krystof et al., 2012). However, in 2007, UBS reported huge losses and faced similar financial crisis as Lehman brothers and Northern Rock. Matters worsen in 2008 when UBS posted a loss of more than 30billion Swiss Francs. This was the biggest corporate loss in the history of Switzerland. The Swiss government had to step in mid-2008 and bail out the bank (Krystof et al., 2012). . UBS loss shock the whole Swiss banking industry and affected the economy greatly is banking is the main global asset of Swiss (Krystof et al., 2012). Various theories have been formulated by different scholars to explain the causes of bank failure. Hook (1994) citing Kindleberger (1989) states that bank failure are caused by rapid increase of bank credit. However, some like Calomiris & Gorton (1991) have argued that bank failure results from government involvement. According to Palubinskas & Stough (1999) bank failure is caused by several factors including, legislation, mismanagement, poor management and deposit insurance. a view shared by Hempel & Simonson (1999) who agree that mismanagement, governmental involvement and regulation interference contribute to bank failure. On his part Chu (1996) claims that free banking is one of the causes of bank failure. 1.2 Research problem
It is important for the researcher to identify and describe the research topic when writing a dissertation (Yin, 1994). This means that the researcher has to take enough time to describe the research problem. In addition, Yin (1994) recommends that the research topic has to be logical and structural so that it can address the questions regarding what, who, why, where and how. This allows the researcher to formulate the correct approach to use. As stated before in the background information section, increase in bank failure has lead to many economists, bankers, regulatory bodies and even governments to take more great interest in this issue because it affects financial stability of a country. Chu (1996) notes that there is a general acknowledgement that banks are crucial element in economy and bank crises cost the entire economy thus, need for banking stability. Banks accepts deposits from their customers and also gives loans to these customers; this means that they are financial intermediaries. A part from that, banks also allows their customers to pay bills through their accounts making them central in the payment system. these functions and many more that are undertaken by the banks makes them to a play an important and critical role in monetary policy of a country and their failure begs us to ask of research question: why do banks fail, a case study of Northern Rock, Lehman brothers, and Union Bank of Switzerland (UBS)? 1.3 Purpose of the study
The main rationale of this study is to establish why bank fail with special attention to three banks; Northern Rock, Lehman brothers, and Union Bank of Switzerland (UBS). Banks as financial institution contribute a lot to the stability of a nation’s economy. However, in the recent past the numbers of banks that have collapsed have been on the increase. Thus, the need to re-examine the causes of bank failure, more so, the present research will provide additional understanding and knowledge to this subject. 1.4 Chapter summary
In summary, this chapter has provided the background information on causes of bank failure. In addition, the chapter has outlined the problem statement, purpose of the study. As noted in the earlier sections, bank failure results in considerable financial impact to the economy and negative impacts to other stakeholders. These huge costs from bank failures...
