Deciphering Securitisation and Covered Bonds: Economic Analysis and Regulations

Securitisation was heavily regulated after the global financial crisis because of the blames placed on it. However, a favourable treatment was given to covered bonds - close counterparts of securitised products. This discrimination raised many concerns among the market participants once the dust of the crisis was settled. This study provides a comparative analysis of securitised products and covered bonds. The study starts with a review of the regulations by providing the detailed information about regulations of both markets and highlights the asymmetry in regulations. After this review, a detailed empirical analysis is performed to assess the credibility of the blames placed on securitised products to identify the actual problems in this market. This empirical analysis also assesses if covered bonds can help in avoiding the problems linked with the securitisation. The data has been collected from 7 major European markets for period of 2000-2014. The major blame on securitisation is that it motivates banks to take elevated credit risk. However, the empirical results of the study do not support this blame, rather covered bond issuing banks are also found taking a higher risk in the long run. Moreover, the empirical analysis also shows that securitisation per se does not increase risk in the banking system, but it depends on the volume of issued securities. A non-linear (U-Shaped) relationship is found between securitisation volume and systemic risk. Results also suggest that only bigger banks should be allowed to issue covered bonds. Currently, regulations are trying to control the risk and restart the securitisation market at the same time. Based on empirical findings, the study suggests that flat treatment given to securitisation may not help in meeting these goals. However, incremental regulations might help regulators to achieve above mentioned competing goals.