Estimating Risk and Excessive Risk-Taking in Colombia's Commercial Banks
| Autor | Toro Diego Ramos |
| Páginas | 187-218 |
187
Estimating Risk and Excessive Risk-Taking
in Colombia’s Commercial Banks
Estimando el riesgo y el exceso de riesgo tomado
por los bancos comerciales colombianos
Diego Ramos Toro*
Abstract
The document estimates the risk embraced by Colombian commercial banks,
and establishes a measurement of excessive risk-taking that is consistent with
such estimation. The construction of the excessive-risk measurement follows
the basic efficient-portfolio framework, in which the variance of an aggregate
portfolio is minimized subject to an observed return. Return and risk-taking
in Colombia’s banking industry appear to decrease between December 2007
and May 2011. In spite of this, the excess-risk exhibits an upward trend, and
denotes an increasing suboptimality when considered as a proportion of the
observed risk. Hence, a reduction in the risk embraced by Colombian banks
paradoxically coincides with an increase in their instability.
Key words: Financial stability, risk attitudes, risk, excessive risk-taking, bank.
J E L classification: E44, G11, G21.
* Universidad de los Andes, Bogotá, Colombia. E-mail: d.ramos61@uniandes.edu.co. I would like to thank
Marc Hofstetter, Catherine Rodriguez, and an anonymous referee for their valuable comments and
suggestions. I would also like to thank Büllent Aybar and Juan Pablo Uribe for their advice and aide
with methodological issues.
Este artículo fue recibido el 31 de enero de 2012; modificado el 23 de agosto de 2012 y, finalmente,
aceptado el 26 de octubre de 2012.
Revista
Desarrollo y Sociedad
70
II semestre 2012
Estimating Risk and Excessive Risk-Taking in Colombia’s Commercial Banks
188
Resumen
El artículo estima el riesgo tomado por la banca comercial colombiana y
establece una medida de toma excesiva de riesgo que es consistente con tal
estimación. La construcción de la toma excesiva de riesgo sigue el modelo
del portafolio eficiente, según el cual la varianza de un portafolio agregado
es minimizada sujeta a un retorno observado. El retorno y el riesgo tomado
por la banca colombiana exhiben una tendencia decreciente entre diciembre
de 2007 y mayo de 2011. Pese a esto, la toma excesiva de riesgo exhibe una
tendencia creciente y denota una creciente suboptimalidad cuando se con-
sidera como proporción del riesgo observado. Por tanto, una reducción en el
riesgo tomado por los bancos colombianos paradójicamente coincide con un
aumento en su inestabilidad.
Palabras clave: estabilidad financiera, actitudes de riesgo, riesgo, toma exce-
siva de riesgo, banco.
Casificación J E L : E44, G11, G21.
Introduction
The financial stability of an economy is crucial for its performance and sus-
tainability. The events of the recent financial crisis provide a clear example of
the consequences that may arise from an unstable financial sector. A prime
element of this stability is the performance and sustainability of the banking
industry. Demirgüç-Kunt, Detragiache and Gupta (2006) demonstrate that a
banking crisis is accompanied by a decline of 2-4% in the output’s growth.
Furthermore, such crises may have long-term consequences on the perfor-
mance of an economy. According to Abiad et al. (2009), a banking crisis may
imply that an economy -in spite of recuperating its pre-crisis growth- may not
rebound to its pre-crisis trend. The banking industry’s sustainability is directly
related to the extent to which the banks embrace risk. Following Bustamante
and Favilukis (2010), the easing of lending standards and the decline in loan
denial rates were at the core of the roots of the subprime crises. Dell’Ariccia,
Deniz and Laeven (2008) show that prior to the financial crisis the rates of
credit repayment were lower precisely in the areas that had larger increases
in number and volume of loans. This indicates that the genesis and outbreak
of the recent financial crises was associated with a deterioration of financial
stability, and with the worsening of banking risk-taking.
Diego Ramos Toro
189
Following the basic premise established by Markowitz (1952), there is an indis-
soluble relationship between risk and return, for an agent is obliged to take on
risk whenever her goal is to obtain a level of return greater than that of the
risk free asset. If an industry takes on more risk than what is required in order
to obtain certain return, then there is an excessive-risk taking in such indus-
try. The mentioned evidence regarding banking crises points to the relevance
of knowing and assessing the extent to which commercial banks embrace
risk. Moreover, it is of prime importance to determine whether such industry
is incurring in excessive-risk taking, and to calculate such magnitude.
This paper utilizes a measurement proposed by Podpiera and Weill (2010) in
which risk-taking is measured as the variance of an aggregate portfolio of the
banking industry. The construction of the excessive-risk measurement follows
the basic efficient-portfolio framework, in which the variance of the mentioned
portfolio is minimized subject to an observed return. The document thus intro-
duces the first quantification of the excess-risk embraced by Colombian com-
mercial banks. Risk-taking in Colombia’s banking industry appears to decrease
between December 2007 and May 2011. In spite of this, excess-risk exhibits
a clear upward trend. This implies that, although the risk embraced by banks
has decreased in the near past, such tendency coincides with an increasing
suboptimality of Colombian banks.
The remaining of the document is structured as follows: Section I delves into
the concept of risk-taking and excessive risk-taking, and reviews the common
procedures used to measure such concepts for the banking industry. Section
II explains in detail the framework and methodology upon which this docu-
ment will measure risk-taking and excessive risk-taking. Section III examines
the database that will be used in order to obtain such estimations. Section IV
presents the main results and its implications. Section V discusses potential
explanations for the observed results. Section VI concludes and points to fur-
ther research avenues.
I. Risk and Excessive Risk-Taking
A discussion and a definition of the concept of risk are prerequisites to an
adequate assessment of the exercise that will be performed in this article. This
document follows the definition given by Ackert and Deaves (2009), according
Estimating Risk and Excessive Risk-Taking in Colombia’s Commercial Banks
190
to which a risk-attitude is the predisposition of an agent to choose between
alternatives with equal expected return, but different variability. A risk-neu-
tral agent would be indifferent between the alternatives as long as they offer
equal expected return. Analogously, a risk-averse agent would prefer a pros-
pect with less variable outcomes, while a risk-seeking agent would prefer the
prospect with more variable outcomes. Hence, when an agent takes a deci-
sion regarding risk, she is assumed to know1 the probabilistic distribution of
the outcomes to which she is exposed.
Theoretical approaches to agents’ risk attitudes in an economy have taken
into consideration the different degrees of aversion towards risk. Within the
neoclassical framework of economics there are two different interpretations
regarding agents’ attitudes towards risk. According to the expected utility the-
ory, the rationality of agents implies that they decide upon the sole criterion of
maximizing their expected wealth, disregarding the variability of the prospect
that they select (Von Neumann and Morgenstern, 1947). The expected utility
framework thus assumes that the economies are constituted by risk-neutral
agents. The second neoclassical interpretation of risk assumes that agents
are risk-averse, reason for why they demand a compensation for embracing
risk (Ackert and Deaves, 2009). This implies a positive relationship between
risk-taking and return (Ackert and Deaves, 2009). An explanation for the risk-
attitude of agents that competes with the traditional approach is Kahneman
and Tversky’s prospect theory. According to such interpretation, agents do not
consider outcomes in terms of wealth magnitudes –as neoclassical interpreta-
tion would suggest- but rather as gains or losses. In such fashion, an agent’s
risk-taking attitude is endogenous, for it depends on whether the agent con-
siders herself on the domains of gains or on the domains of losses (Kahne-
man and Tversky, 1979).
The concept of excess risk-taking goes hand in hand with that of risk-taking,
with one further crucial assumption: the existence of an optimal level for
such concept in the economy (Agur and Demertzis, 2010). This implies that if
banks –on the aggregate level- embrace risk to an extent above the optimal
level, the banking system as a whole could benefit from less risk-taking with-
1 Or at least to think that she knows. This establishes a stark difference with the concept of decision
under uncertainty, which occurs when agents have no information about the prospects outcomes and/
or probabilistic distribution (Ackert and Deaves, 2009).
Diego Ramos Toro
191
out sacrificing its levels of profitability. Although several authors recognize
the existence of excess risk-taking, there is a gap in the literature in terms of
explaining the determinants of such element. Furthermore, the empirical con-
nection between these two elements remains unexplored. The main reason for
the referred absence is the absenteeism of a comprehensive measurement of
excessive risk-taking that is consistent with an estimation of risk-taking. The
following section proceeds in such direction.
The body of literature that analyzes the determinants of banks’ risk-taking uses
several techniques in order to estimate such element. The most frequently used
is a Z-score consistent with the Basel II environment. Such score estimates
a bank’s likelihood of becoming financially distressed, using several financial
coefficients such as the return-on-assets, its dispersion, along with equity-
to-total-assets ratio (Altman, 2002). This measurement of risk-taking is given
at an observation level, shedding a coefficient for each bank. Another popular
technique to assess a bank’s level of risk, particularly on a practical level, is
the non-performing-loans ratio. Given that a non-performing loan is defined
as the loan for which the debtor has a delay of up to 90 days in making her
scheduled payments, this ratio denotes the percentage of low quality borrowers
to which a bank is exposed. An alternative way of determining a bank’s expo-
sure to risk could be a ratio of liquid-to-total-assets. This estimation would
be consistent with the basic bank-run set-up of Diamond and Dybvig (1983),
in which a bank is obliged to forego potential financial returns given its need
to have liquid loans that enables it to face an early liquidation. Hence, a high
liquid-to-total-assets ratio would denote a low level of risk embraced by the
bank, given the danger of a costly early liquidation. The referred estimations,
however, do not assess the crucial element of optimal risk. By foregoing such
element, there is an impediment to evaluate excessive (suboptimal) risk, and
to examine the empirical determinants of such suboptimality, along with an
empirical scrutiny of the relationship between risk and financial (economi-
cal) performance.
II. Measuring
Risk
and
Excessive Risk-Taking
In order to evaluate the risk embedded in the assets of a bank and to exam-
ine the optimality of such risk, Podpiera and Weill (2010) propose a method-
ology in which an aggregate portfolio for the banking industry is generated.
Estimating Risk and Excessive Risk-Taking in Colombia’s Commercial Banks
192
In order to generate an aggregate portfolio the authors divide the assets into
the types of loans granted by the banks in a determinate period. If the types
of loans in the industry are denoted by i, then the aggregate share of the loan
i in the period t is given by
it
total value of l oans i in period t
total value of l oan
,=ssinperiod t
(1)
The Podpiera-Weil framework assumes that the actual return earned by a bank
for a given loan is equivalent to the rate it charges. This assumption is prob-
lematic, for the rates charged by banks deviate from actual returns earned
by them. This is proved by the fact that there are loans for which the lenders
receive no payment from their debtors. The fact that lenders are aware of this
potential loss prior to any disbursement implies that the appropriate ex-ante
returns used to calculate effective risk-taking must incorporate the portion of
loans that are not repaid by borrowers. In such fashion, the measure of return
that will be used henceforth is given by
Rr
intint int
,, ,, ,,
=
()
(2)
Where
rint,,
is the rate charged at period t for the loan i issued by bank n, and
int,,
is a yearly-based discount given by
writeoffs pastdue loans
totalloansgranted
int,,=− +
1
int,,
(3)
In such discount, the write offs correspond to the total write offs acknowl-
edged by the bank during the year corresponding to month t, whilst the past
due loans correspond to the total value of loans during that same year that
were not repaid in the stipulated period. Analogously, the total loans granted
correspond to the total value of the loans granted by the bank n during the
year corresponding to month t.
The reason for why the discount is set on a yearly basis is best explained by
the procedure through which a bank accepts a write off. The decision to accept
such loss is an accounting -rather than financial- choice, for it is when a bank
decides to change an unpaid loan from an expected income to an accepted loss
Diego Ramos Toro
193
in the profit-and-loss statement. Hence, the financial decision upon which a
loan is issued comes several months prior to the accounting decision to rec-
ognize an unpaid loan as a write off. Setting the discount on a monthly basis
would thus augment the volatility in a given month without any consistency
with the risk-return choice taken within the bank for such month. Addition-
ally, a monthly measure of such variable could result in erroneous rates of
discount, for if several unpaid loans that were granted in different months
are accepted as write-offs in the same month, equation (3) could assume a
negative value. Such erratic result would imply a negative return, leading to
a erroneous conclusions regarding the financial decisions taken by the bank
in such period. On the contrary, calculating a yearly discount avoids adding
unfair variability to the return, whilst approaching more accurately to the
actual ex-ante decision through which a bank calculates the average return
they will receive for the loans they grant.
The aggregate return for the loan i would be given by the simple average of
the returns earned by banks for each loan category:
gR
n
it
nint
,
,,
=∑
(4)
where n is the total number of banks in the sample. Therefore, the return of
the aggregate portfolio would be given by
Gg
tiit it
=∑ ,,
(5)
The risk embraced by the banking sector in period t is given by the volatility
of the loans issued by the banks:
tijitjtijt
=∑∑,,,,
(6)
where j -as i - denotes the set of loan-types granted by Colombia’s com-
mercial banks, and
ij,
is the covariance between the loan categories
i and j –which in turn would equal to the variance of loan i whenever
i equals j –.
Estimating Risk and Excessive Risk-Taking in Colombia’s Commercial Banks
194
A calculation of the optimal level of risk-taking is achieved by conjugating
the referred elements with those proposed by Markowitz (1952) in his effi-
cient-portfolio theory. Assuming that agents in the economy are risk-averse,
the optimal level of risk-taking would be the minimal risk required to obtain
the observed return, i.e.
min
..
,,, ,,
it ij it jt ijt
iii t
st
gG
∑∑
∑
=
(7)
Given a solution of
t
*
to the referred optimization problem, the excessive risk
embraced by the banking industry in period t would be given by
ettt
=−
*
(8)
III. The Database
The information on Colombian banking industry can be obtained from the
Superintendencia Financiera (Superfinanciera for short), Colombia’s public
entity in charge of the supervision and inspection of the financial institu-
tions operating in such economy. The records kept by Superfinanciera contain
monthly information regarding the value of each type of loan for all the banks,
along with the monthly rates charged for each type of loan. Additionally, it
contains end-of-the-year information regarding the total value of loans, the
past due loans, and the write offs corresponding to every year. The informa-
tion is categorized according to four groups of loans: commercial, consump-
tion, microcredit, and real estate. The commercial loans correspond to those
granted to firms with the purpose of acquiring machinery, transporting equip-
ment, computational equipment, and to firms that need liquidity for their basic
working capital. The consumption loans correspond to the credit granted to
individuals who pursue to acquire equipment, cars, furniture, among others.
Real estate loans refer to those that were granted with the purpose of acquir-
ing and/or creating housing. These types of loans are divided into those that
are of prime social interest –for low income economical groups-, and those
that are not. Finally, the microcredit loans correspond to those loans granted
to illiquid entrepreneurs who wish to start a business or who currently own
Diego Ramos Toro
195
a small-starting business. The data is available on a monthly basis between
December 2007 and May 2011, which implies a total of 42 months. Before
December 2007 the needed data is given only for December of each year,
starting from December 2002.
The information used in this document comes from all the banks that com-
plied with the following two criteria: (1) that appeared in the whole period of
analysis, and (2) that granted loans to at least 2 of the 4 categories. Accord-
ing to such standards, the sample of banks excludes a total of 10 banks2, and
boils down to the 14 banks contained in Table 1. Based on the information
reported by such banks, an aggregate portfolio for the banking industry was
constructed for each month between December 2007 and May 2011, and for
each of the Decembers between 2002 and 2010. A key assumption was needed
in order to obtain a balanced panel for the period of interest: for those banks
that did not report a loan type in certain month, it was assumed that the bank
would have lent at the mean rate of such category of loan in such month. This
assumption allows a balanced panel containing a rate and a loan value for
each bank at all months. It is worth mentioning that by following an alterna-
tive procedure –eliminating all the banks that did not report the four types of
loans- valuable information is lost, and the general results –discussed in the
following section- still hold3. The database entails two basic limitations. First,
the gross loan-categorization implies that valuable information –in terms of
risk and return optimality- may be lost due to the lack of data refinement.
Second, the sample of banks is somehow small, limiting the results that will
be presented later on.
Table 1. Banks Used in the Calculation of Risk and Excess Risk
Popular Bogotá
Santander Bancolombia
Citybank Sudameris
H S B C B B V A
B C S C Occidente
Davivienda Colpatria
Agrario AV Villas
2 Granbanco, Procredit, WWB, Bancamia, Coomeva, Banco Fallabella, Banco Finandina, Banco Pichincha,
Helm Bank, and Scotia Bank.
3 Results of the alternative exercise will be sent upon request.
Estimating Risk and Excessive Risk-Taking in Colombia’s Commercial Banks
196
Table 2. Summary Statistics of Loan Shares Relative to Total Loans Granted
Micro Commercial Consumption Real Estate
Min 1.8% 59.1% 27.2% 7.4%
Max 2.5% 62.5% 30.4% 9.1%
Mean 2.2% 60.7% 28.6% 8.5%
Median 2.3% 60.6% 28.4% 8.6%
Std. 0.2% 1.0% 0.8% 0.4%
Before delving into the calculations, it is worth examining the general trends
contained in the information. Figure 1 illustrates the behavior of the share of
each loan category throughout the analyzed period, whereas Figure 2 eluci-
dates the behavior of the average return of each category.
Figure 1. Corresponding Share of each Category of Loan Relative to the Total Value
of Loans Granted
When examining Figure 2 one notices that the microcredit receives the higher
return throughout the period, which —following the basic Stiglitz and Weiss
(1981) setup— implies that such loan entails the highest ex ante risk compensa-
tion. This is true regardless of Colombian financial regulation, which stipulates
a ceiling for the rates charged for microcredit loans (the ceiling is nowadays
near 45.9%, which is way above the maximum rate of 30% charged in the
Diego Ramos Toro
197
period under scrutiny). Contrarily, the real estate loans are associated with
the lowest return, a result that may derive from Colombian financial regula-
tion which stipulates that the rates charged for such credit category must be
the lowest. The earned returns for these types of loans are somehow stable,
whereas the earned returns for consumption and commercial credit vary sig-
nificantly throughout the analyzed period. This may be in part explained by
Colombian financial regulation, which impedes the microcredit rate to rise
above a certain level, and ensures that the real state rate is the lowest of the
rates. As illustrated by Figure 2, there is a considerate decline in the returns
earned for the commercial and credit categories of loans. These assertions are
supported by the information shown in Table 3: the dispersion between the
minimum and the maximum earned returns for commercial and consumption
credits are well above the dispersion exhibited by microcredit and real estate.
Analogously, the standard deviation of microcredit and real estate is lower
than the standard deviation of consumption and commercial credit.
Figure 2. Loan Return for each Category of Loan
Although there is a notable variation in the earned returns, Figure 1 illustrates
how the shares of such loans exhibit almost no variability. The majority of
credit is always allocated on commercial loans, followed by a significant allo-
cation on consumption loans. As shown in table 2, allocations on real estate
and microcredit are much less significant, with a maximum of 9.11% and 2.5%
Estimating Risk and Excessive Risk-Taking in Colombia’s Commercial Banks
198
respectively allocated to such loans. This implies a lack of dynamism and a
reduced reconfiguration of the portfolio selection with respect to the returns
achieved by the assets. An estimation and analysis of the effects of such lack
of dynamism may be achieved by calculating the excessive risk and subopti-
mality of the aggregate portfolio of Colombian commercial banks.
Table 3. Summary Statistics of Returns Earned for each Category of Loan
Micro Commercial Consumption Real Estate
Min 21% 11% 14% 12%
Max 26% 21% 22% 15%
Mean 24% 16% 19% 13%
Median 24% 15% 19% 13%
Std. 1% 4% 3% 1%
IV. Results
Table 4 contains all the results derived from the exercise performed at a monthly
basis between December 2007 and May 2011. The analysis and interpretations
of these results are contained in the following subsections.
Table 4. Results
Year Month Return Observed
Risk
Observed
Risk (Base
Dec 2007)
Non
Performing
Loans Ratio
Optimal
Risk
Excess
Risk
Excess Risk
(as a share
of Obs.
Risk)
2007 Dec 0.206 0.034 100% 0.032 0.013 0.021 63
2008 Jan 0.207 0.035 103% 0.034 0.019 0.015 44
2008 Feb 0.208 0.033 99% 0.035 0.022 0.011 34
2008 Mar 0.206 0.033 99% 0.037 0.022 0.011 34
2008 Apr 0.212 0.033 100% 0.038 0.022 0.011 34
2008 May 0.208 0.033 99% 0.039 0.020 0.013 39
2008 Jun 0.206 0.034 102% 0.037 0.021 0.014 40
2008 Jul 0.207 0.034 101% 0.037 0.020 0.014 40
2008 Aug 0.208 0.034 103% 0.039 0.021 0.013 38
2008 Sept 0.207 0.032 96% 0.039 0.020 0.013 39
2008 Oct 0.199 0.032 95% 0.038 0.017 0.015 46
2008 Nov 0.209 0.033 99% 0.041 0.017 0.016 48
(Continued)
Diego Ramos Toro
199
Table 4. Results
Year Month Return Observed
Risk
Observed
Risk (Base
Dec 2007)
Non
Performing
Loans Ratio
Optimal
Risk
Excess
Risk
Excess Risk
(as a share
of Obs.
Risk)
2008 Dec 0.204 0.031 93% 0.038 0.024 0.007 22
2009 Jan 0.204 0.026 77% 0.041 0.017 0.009 33
2009 Feb 0.196 0.029 88% 0.042 0.016 0.014 47
2009 Mar 0.197 0.031 92% 0.043 0.014 0.017 55
2009 Apr 0.184 0.035 103% 0.044 0.012 0.023 65
2009 May 0.172 0.032 97% 0.044 0.011 0.021 66
2009 Jun 0.169 0.035 105% 0.043 0.012 0.023 66
2009 Jul 0.158 0.033 98% 0.043 0.010 0.023 70
2009 Aug 0.158 0.032 96% 0.045 0.009 0.023 71
2009 Sept 0.152 0.032 95% 0.043 0.009 0.023 71
2009 Oct 0.149 0.032 96% 0.043 0.008 0.024 74
2009 Nov 0.151 0.035 105% 0.043 0.008 0.027 78
2010 Jan 0.145 0.036 107% 0.041 0.008 0.028 78
2010 Feb 0.138 0.032 96% 0.042 0.007 0.025 78
2010 Mar 0.141 0.028 83% 0.043 0.007 0.021 76
2010 Apr 0.138 0.028 85% 0.042 0.006 0.022 79
2010 May 0.136 0.030 88% 0.040 0.008 0.022 74
2010 Jun 0.128 0.026 78% 0.037 0.006 0.020 76
2010 Jul 0.131 0.026 78% 0.037 0.007 0.019 73
2010 Aug 0.128 0.025 73% 0.036 0.007 0.018 72
2010 Sept 0.125 0.026 77% 0.033 0.007 0.019 71
2010 Oct 0.126 0.024 71% 0.032 0.007 0.017 70
2010 Nov 0.126 0.024 72% 0.031 0.007 0.017 71
2010 Dec 0.121 0.027 79% 0.027 0.007 0.019 72
2011 Jan 0.139 0.025 73% 0.029 0.008 0.017 68
2011 Feb 0.141 0.026 77% 0.029 0.009 0.016 64
2011 Mar 0.142 0.029 87% 0.029 0.009 0.020 67
2011 Apr 0.151 0.034 103% 0.029 0.012 0.022 65
2011 May 0.151 0.032 95% 0.027 0.013 0.019 58
Estimating Risk and Excessive Risk-Taking in Colombia’s Commercial Banks
200
A. Returns
Consistent with the tendencies exhibited in Figure 2, the aggregate return
of the banking industry is characterized by its declining tendency between
December 2007 and May 2011. This follows from the fact that the returns for
commercial and consumption loans declined steadily. This, combined with the
fact that those two categories of loans represent the majority of the aggregate
portfolio, implies that the earned returns fell significantly from its 2007 levels
of nearly 21% to a 15% level in May 2011, as illustrated by figure 3.
Figure 3. Return Earned by Colombia's Banking Industry
0.250
0.200
0.150
0.000
Return
Months Between December 2007 and May 2011
Dec
Jan
Feb
Mar
Apr
May
Jun
Jul
Aug
Sept
Oct
Nov
Dec
Jan
Feb
Mar
Apr
May
Jun
Jul
Aug
Sept
Oct
Nov
Dec
Jan
Feb
Mar
Apr
May
Jun
Jul
Aug
Sept
Oct
Nov
Dec
Jan
Feb
Mar
Apr
May
0.100
0.050
y=-0.0024x+0.2193
R=0.8273
2
B. Risk-taking
The calculation of equation (6) yields the observed risk taking for Colombia’s
banking industry for each of the months of the period under scrutiny. The
results are in terms of standard deviations, which represent the volatility to
which the aggregate return of the industry is exposed. In other words, such
number is a statistical measurement denoting how far off could the return
lie from the mean return of the banking industry. If two portfolios have equal
expected return, but one of these has a greater standard deviation than the
other, then it holds that such return could have been potentially lower or
higher, implying a greater risk of such bank’s assets. An increase (decrease) in
the standard deviation thus implies an augment (decline) of the risk embraced
Diego Ramos Toro
201
by the industry. Figure 4 exhibits the risk-taking trend for the banking industry
in Colombia. Such figure shows that, in spite of the sharp increase in the last
months, the risk-taking is characterized by a downward trend, which implies
that banks reduced the risk embraced by them in the analyzed period. One
can corroborate this by observing the percent-change of risk-taking. Figure 5
shows that, with respect to the first month under scrutiny, the observed risk-
taking is always smaller than that of the initial month, exhibiting a decline of
nearly 30% in some of the months (such as October 2010). Again, in spite of
the sharp increase in the last months, risk-taking rarely rises to its original level
of December 2007, which is a clear indication of the declining trend of risk-
taking in the period under scrutiny. It is important to note, however, that this
general trend cannot be extrapolated to the near future, for the risk-increase
observed in the last months may imply a reversal in the tendency.
Figure 4. Equation 6. Risk Taking (In Standard Deviations)
0.040
0.035
0.030
0.000
Standard Deviations
Months between December 2007 and May 2011
Dec
Jan
Feb
Mar
Apr
May
Jun
Jul
Aug
Sept
Oct
Nov
Dec
Jan
Feb
Mar
Apr
May
Jun
Jul
Aug
Sept
Oct
Nov
Dec
Jan
Feb
Mar
Apr
May
Jun
Jul
Aug
Sept
Oct
Nov
Dec
Jan
Feb
Mar
Apr
May
0.020
0.010
y=-0.0002x+0.0346
R=0.342
2
0.025
0.015
0.005
An important exercise is to compare the measure of risk-taking performed
in this document with other possible measures for the banking industry as a
whole. Table 4 contains the monthly non-performing-loans ratio for the bank-
ing industry, and Figure 6 depicts the tendency of such alternative measure of
risk. Although the general declining tendency holds —and although the fitted
values exhibit an equal decline in risk per period of month— it is clear that
there is not a perfect relationship between these two measures of risk. This
can be easily identified by noting that in the last months the portfolio-mea-
sure of risk yields an increase in risk, while the non-performing loans ratio
Estimating Risk and Excessive Risk-Taking in Colombia’s Commercial Banks
202
yields a risk-decline. Furthermore, an observed correlation of 0.40 between
the two measures of risk implies that, although they tend to move in equal
directions, the two measures of risk may result in contradictory results for
some particular months.
Figure 6. Non Performing Loans Ratio
Months between December 2007 and May 2011
0.040
0.035
0.030
0.000
Ratio
Dec
Jan
Feb
Mar
Apr
May
Jun
Jul
Aug
Sept
Oct
Nov
Dec
Jan
Feb
Mar
Apr
May
Jun
Jul
Aug
Sept
Oct
Nov
Dec
Jan
Feb
Mar
Apr
May
Jun
Jul
Aug
Sept
Oct
Nov
Dec
Jan
Feb
Mar
Apr
May
0.020
0.010
y=-0.0002x+0.0413
R=0.1608
2
0.025
0.015
0.005
0.045
0.050
Figure 5. Equation 6. Risk Taking (As a Percentage of Risk-Taking in December 2007)
Months between December 2007 and May 2011
120%
0%
Percentage
Dec
Jan
Feb
Mar
Apr
May
Jun
Jul
Aug
Sept
Oct
Nov
Dec
Jan
Feb
Mar
Apr
May
Jun
Jul
Aug
Sept
Oct
Nov
Dec
Jan
Feb
Mar
Apr
May
Jun
Jul
Aug
Sept
Oct
Nov
Dec
Jan
Feb
Mar
Apr
May
60%
20%
40%
100%
80%
Diego Ramos Toro
203
C. Excessive Risk Taking
The data of excessive risk-taking comes from the calculation of equation (8)
at a monthly basis. This implies that, as with risk, the measure of excess risk
is given in standard deviations. An excess risk of x implies that the industry
incurred in x additional standard deviations than what it needed in order to
obtain the observed return. In other words, the industry could have exhibited
x less levels of volatility in order to obtain the same return r in period t, if it
had allocated its portfolio in an optimal manner. Figure 7 depicts the observed
tendency for the excess-risk measured in standard deviations. The general con-
clusion is that there is a clear upward trend, implying that Colombian banking
industry increasingly embraced unnecessary risk between December of 2007
and May of 2011. However, it could be the case that the excess-risk exhibits
some degree of seasonality (Figure 8 depicts a polynomial tendency of sixth
degree with an R2 of 0.77). Alas, the limited dataset impedes a deeper scru-
tiny into such matter, for a more extended dataset would be needed in order
to assess if such series is an A R M A , and –should it be- of its order.
Figure 7. Equation 8. Excessive Risk-Taking in Standard Deviations
0.020
0.000
Standard Deviations
Months between December 2007 and May 2011
Dec
Jan
Feb
Mar
Apr
May
Jun
Jul
Aug
Sept
Oct
Nov
Dec
Jan
Feb
Mar
Apr
May
Jun
Jul
Aug
Sept
Oct
Nov
Dec
Jan
Feb
Mar
Apr
May
Jun
Jul
Aug
Sept
Oct
Nov
Dec
Jan
Feb
Mar
Apr
May
0.010
y=0.0002x+0.0141
R=0.2155
2
0.015
0.005
0.025
0.030
R=0.7701
2
An alternative reading of this result sheds light to other important features
contained in the measure of excess-risk. Figure 8 illustrates how much of the
total risk-taking does the excess-risk represent. If the excess risk corresponds
Estimating Risk and Excessive Risk-Taking in Colombia’s Commercial Banks
204
to y% of the observed risk, then it is the case that the banking industry -in
optimality- could have attained the same return by reducing its risk-exposure
by y%. This alternative reading of the data thus leads to a result regarding the
level of suboptimality. Figure 8 shows an increasing tendency of suboptimal-
ity regarding risk-taking decisions. Although this measure also exhibits some
form of seasonality, the fact that a linear fit yields an increase of 0.97% per
month with an R2 of 0.52 implies that in the period under scrutiny the bank-
ing industry experienced a rise in the risk suboptimality. This increase could be
related with the financial stability of the banking industry, for an increasing
margin of suboptimality implies ineffectiveness regarding the banks’ financial
allocations and decisions.
Figure 8. Equation 8. Excessive Risk Taking (As a Percentage of
Observed Risk Taking)
0
Percentage
Months between December 2007 and May 2011
Dec
Jan
Feb
Mar
Apr
May
Jun
Jul
Aug
Sept
Oct
Nov
Dec
Jan
Feb
Mar
Apr
May
Jun
Jul
Aug
Sept
Oct
Nov
Dec
Jan
Feb
Mar
Apr
May
Jun
Jul
Aug
Sept
Oct
Nov
Dec
Jan
Feb
Mar
Apr
May
y=0.9655x+38.935
R=0.5196
2
10
20
30
40
50
60
70
80
90
The results depicted in Figures 7 and 8 are consistent with the findings of other
authors such as Morales (2011), who constructs and index of financial insta-
bility for Colombian banking industry by using different financial indicators,
and finds that such index increases in the period 2007-2009. The percentage
increase of suboptimality responds to the fact that, although observed risk
exhibits a downward trend, the ´optimal risk´ (i.e., the minimum risk required
to attain the observed level of return) exhibits a faster decline. As mentioned
earlier, this may derive from the fact that the shares of each category of loan
remain somehow static through time, while the average return for some of
these categories do vary widely. Accordingly, the lack of adjustments in the
Diego Ramos Toro
205
portfolio to assess this changing scenario may lead to an increasing subop-
timality.
The analyses performed in this and the previous subsection point to a crucial
result: a reduction in the observed risk-taking may have no real effect on the
stability and optimality of the banking industry. It may very well be the case
that a decrease in risk occurs while there is an increase in excessive risk and in
its share relative to the observed risk. This result thus contradicts the general
intuition portrayed in the analysis of some authors who implicitly assume a
direct relation between risk-taking and financial instability; a banking system
may be reducing the level of risk it takes while augmenting its instability by
exhibiting an increased deviation from portfolio optimality.
D. Yearly December Results
Although an extended set of results covering several years would be desirable,
the results of this document are limited by the available dataset in the Super-
financiera. However, as mentioned previously, the data available at Superfi-
nanciera contains the needed information for each December between 2002
and 2010. Although this is not the same as an extended dataset, it allows for
comparable yearly results. The general results are contained in Table 5.
Table 5. Results for each December between 2002 and 2010
Year Return Observed
Risk
Observed
Risk (Base
Optimal
Risk Excess-Risk
Excess-Risk
(as a Share of
Obs. Risk)
2002 0.181 0.040 100% 0.016 0.024 60
2003 0.182 0.041 103% 0.016 0.025 61
2004 0.191 0.044 110% 0.011 0.034 76
2005 0.175 0.036 90% 0.007 0.029 80
2006 0.157 0.024 61% 0.006 0.019 77
2007 0.206 0.034 84% 0.013 0.021 63
2008 0.204 0.031 78% 0.024 0.007 22
2009 0.142 0.035 88% 0.009 0.027 75
2010 0.121 0.027 66% 0.007 0.019 72
Figure 9 shows that the banking industry exhibits a downward trend in risk
taking from 2002 to 2010, with the important exception of the years of inter-
Estimating Risk and Excessive Risk-Taking in Colombia’s Commercial Banks
206
national financial turmoil (2007-2009) which correspond to an upsurge of risk-
taking. Figure 10 shows that the level of excess-risk (measured in standard
deviations) experiences a decline, with the sole exception of 2009. Although
the excess risk –i.e., the additional amount of risk that was taken due to assets
allocations- declines, its share with respect to the observed risk tend to hold
near 65% through time, with the important exception of 2008.
Figure 9. Risk Taking (in Standard Deviations) of Each December Between 2002 and
2010
0.020
0.000
Standard Deviations
Year
0.010
0.015
0.005
0.025
0.030
0.040
0.035
0.045
0.050
2002 2003 2004 2005 2006 2007 2008 2009 2010
Figure 10. Excessive Risk Taking (in Standard Deviations) of each December between
2002 and 2010
0.020
0.000
Standard Deviations
Year
0.010
0.015
0.005
0.025
0.030
0.040
0.035
2002 2003 2004 2005 2006 2007 2008 2009 2010
Diego Ramos Toro
207
V. Understanding Risk-Taking and its
Relationship with Excess-Risk
Explanations of the reasons behind the degree of risk embraced by commer-
cial banks have been made from different perspectives. Among the factors
cited as the elements that mainly drive the risk-taking attitude in such indus-
try one finds monetary policy, leverage, corporate governance and regulation,
the degree of competition in the industry, and prospect theory. The following
subsections explore the mechanisms through which these variables may affect
risk-taking, and analyze the tendencies followed by such variables in Colom-
bian financial system between December of 2007 and May of 2011.
A. Monetary Policy
There is a general consensus that a monetary easing is related to an increase
in banks’ risk taking (Nicoló, Dell’ariccia, Laeven and Valencia, 2010). Particu-
larly, the nowadays popular thesis that blames monetary policy for the recent
financial crisis implicitly assumes that this relationship is true. This, given that
it is grounded on the idea that the extended period of low interest rates gave
an incentive to financial institutions to embrace more risk, in detriment of
financial (and economical) sustainability (Nicoló et al. 2010). The most com-
monly cited mechanisms through which monetary policy affects risk-taking is
captured by the yield-search theory. Following Rajan (2005), whenever there is
a prolonged period of low interest rates, banks are unable to meet their long
term obligations by possessing safe assets. This, in turn, implies that banks
are compelled to search for a higher yield by acquiring riskier assets, which
in turn leads to a higher aggregate level of risk-taking in banking industry.
Another commonly cited mechanism through which monetary policy is related
to bank risk-taking is referred to as “The Greenspan (or Bernanke) put”. Accord-
ing to the proponents of such increasingly popular mechanism, a low policy
rate would generate the perverse expectations that central banks will always
strongly react -by easing monetary policy- to adverse economic prospects
(Nicoló et al., 2010). This, in turn, would incentivize a higher degree of risk-
taking from banking industry.
There is ample theoretical and empirical research supporting an inverse
relationship between monetary policy and risk-taking. Investigating Boliv-
ian banking system, Ioannidou, Ongena and Peydro (2009) demonstrate that
Estimating Risk and Excessive Risk-Taking in Colombia’s Commercial Banks
208
lower short-term rates –prime instrument of monetary authorities- imply an
increase of credit to borrowers of lower quality. Analogously, Jiménez et al.
(2008) arrive at a similar conclusion by examining Spanish banking system.
Dell’Ariccia, Laeven and Marquez (2010) use data from the U.S. terms of Busi-
ness Lending Survey to show a negative relation between short rates and the
augmentation of risky loans.
The pointed evidence contradicts the relationship between monetary policy
and risk-taking that could arise via adverse selection and moral hazard. These
mechanisms suggest that an increase of short term rates would lead to an
increase of commercial bank’s risk-taking, given the upsurge of credit risk. This
theoretical mechanism ignores the fact that commercial banks incur in credit
rationing and in a tightening of lending standards when exposed to adverse
selection and moral hazard. Banks thus avoid an increase of risk-taking derived
from a potential augment of credit risk by limiting the credits granted, and by
ensuring a higher quality of borrowers.
Colombian monetary policy between December of 2007 and May of 2011
was a period of strong response from the monetary authorities towards the
international financial crisis. Particularly, a period of sustained decline in the
nominal rates, combined with a lagged decline in inflation levels resulted in
a sharp decrease of real interest rates. Figure 11 shows the trend followed by
Colombian real interest rates in such period. It is notable how the rate follows
Figure 11. Colombian Monetary Policy (Central Bank´s Real Interest Rates)
0 0
Real Interest Rate
Months between December 2007 and May 2011
Dec
Jan
Feb
Mar
Apr
May
Jun
Jul
Aug
Sept
Oct
Nov
Dec
Jan
Feb
Mar
Apr
May
Jun
Jul
Aug
Sept
Oct
Nov
Dec
Jan
Feb
Mar
Apr
May
Jun
Jul
Aug
Sept
Oct
Nov
Dec
Jan
Feb
Mar
Apr
May
0.010
0.030
(0.010)
0.050
0.020
-
(0.020)
Diego Ramos Toro
209
a dramatic decline during 2008, reaching its minimum level in June 2009 and
stabilizing around the zero-level thereafter. Such tendency, according to the
evidence about financial stability from other parts of the world, would imply an
increase in the levels of risk and excess risk. If such relationship were to hold
for Colombian case, then the short and medium term monetary stimuli to the
economy would have come at the price of increasing financial instability.
B. Leverage
Leverage may present a dual effect on banks’ risk-taking, depending on the
interaction of this and other variables. The commonly cited effect of leverage
is known as risk-shifting. According to Bustamante and Favilukis (2010), when
a bank’s leverage ratio increases it has greater incentives to conform a riskier
portfolio given its limited liability. In such scenarios the bank’s payoff resem-
bles that of a call-option, which increases in value whenever the outcomes are
more volatile. Given the mentioned incentive, this implies a positive relation-
ship between leverage and bank risk-taking via a riskier composition of a bank’s
assets. Considering leverage in the context of an eased monetary policy, how-
ever, sheds the converse result. Following Dell’Ariccia et al. (2010) and Nicoló
et al (2010), a poorly capitalized (highly levered) bank experiences a decrease
in the cost of its liabilities whenever an economy’s short term rates decrease4.
This implies that, everything else equal, the bank’s profits will increase, gen-
erating an incentive to reduce the risk embedded in its portfolio.
The debt ratio –that is, the total value of the banking system’s debt relative to
the total value of the system’s assets- serves as an accurate measure of the
amount of leverage embraced by an industry. Figure 12 illustrates the leverage-
dynamic followed by Colombian banking industry according to such ratio.
Such figure denotes a trend of slight increase in the observed leverage between
December of 2007 and May 2011. The impact of such dynamic is not clear;
according to the cited discussion this tendency could imply either an increase
or a decrease in financial instability.
4 This could also be seen as a determinant of a potential positive relation between bank risk-taking and
an eased monetary policy, which would imply an opposing force to the mechanisms cited above.
Estimating Risk and Excessive Risk-Taking in Colombia’s Commercial Banks
210
Figure 12. Leverage. Debt Ratio Exhibited by Colombian Banking Industry
08
0.00
Debt Ratio
Months between December 2007 and May 2011
Dec
Jan
Feb
Mar
Apr
May
Jun
Jul
Aug
Sept
Oct
Nov
Dec
Jan
Feb
Mar
Apr
May
Jun
Jul
Aug
Sept
Oct
Nov
Dec
Jan
Feb
Mar
Apr
May
Jun
Jul
Aug
Sept
Oct
Nov
Dec
Jan
Feb
Mar
Apr
May
0.02
0.16
0.14
0.12
0.10
0.08
0.06
0.04
0.02
C. Market Concentration
As with leverage, there is no univocal relationship between competition and
the degree of risk taking in banking industry. Following Keeley (1990), a high
degree of competition in the industry is associated to higher levels of risk-
taking given the erosion of the bank’s franchise value -that is, the value of
the bank above and beyond its tangible assets-. Given this erosion, banks
have an incentive to take on more risk in its assets in order to attain a higher
level of return, thus maintaining its profitability levels. An opposing theory,
however, argues that an increase of competition could lead to a decreasing
degree of risk-taking whenever there are informational asymmetries at work.
This, given that –everything else equal- an industry with concentrated market
power can lead to higher rates charged to borrowers, which could derive in an
augmentation of credit risk via moral hazard and adverse selection (Boyd and
Nicoló, 2005). However, the same argument used against a positive relation-
ship between monetary policy and risk-taking could serve against this mech-
anism; there is no evident reason for why banks in a less competitive industry
with informational asymmetries would not incur in credit rationing and in a
tightening of lending standards in order to avoid taking on more risk for the
higher rates that it charges.
Although the argument for an inverse relationship between market concentra-
tion and risk-taking sounds less compelling than the argument supporting a
Diego Ramos Toro
211
positive relationship, there is empirical evidence supporting both views. Using
a dataset of Spanish banking system and after controlling for several macro-
economic conditions and bank characteristics, Jiménez and López (2007) find
that there is evidence of a negative relationship between market concentration
and bank risk. On the contrary Boyd, Nicoló and Jalal (2006) examine a panel
of 2700 banks from 134 countries and a cross section of small banks operat-
ing on only one market within the U.S to conclude, using several measures of
risk-taking, that there is a positive relationship between market concentra-
tion and bank risk-taking. Martínez-Miera and Repullo (2008) integrate both
frameworks by asserting that there is a nonlinear relation between competi-
tion and bank risk-taking, which allows competition to increase risk-taking
in some domains and to decrease it in others. Both mechanisms seem thusly
to be working, and the observed correlation of market power and risk taking
depends on the specification of the model and the used dataset.
The level of concentration of Colombian banking industry can be captured by
the Herfindahl-Hirscham index. Figure 13 shows that such concentration fol-
lows no clear trend in the period under scrutiny, but rather a slight season-
ality. In spite of its fluctuating nature, the fact that the index remains above
1000 and below 1800 throughout the analyzed period implies that Colom-
bian banking system was moderately concentrated between 2007 and 2011
(Morales, 2011).
Figure 13. Market Concentration. The Herfindahl-Hirs cham Index for Colombian
Banking Industry
1080
990
Herfindahl-Hirschman Index
Months between December 2007 and May 2011
Dec
Jan
Feb
Mar
Apr
May
Jun
Jul
Aug
Sept
Oct
Nov
Dec
Jan
Feb
Mar
Apr
May
Jun
Jul
Aug
Sept
Oct
Nov
Dec
Jan
Feb
Mar
Apr
May
Jun
Jul
Aug
Sept
Oct
Nov
Dec
Jan
Feb
Mar
Apr
May
1090
1070
1060
1050
1040
1030
1020
1010
1000
Estimating Risk and Excessive Risk-Taking in Colombia’s Commercial Banks
212
D. Other Mechanisms: Corporate Governance
and Prospect Theory
It is worth mentioning that there are two other known mechanisms that may
explain the level of risk-taking and, potentially, the level of excess-risk and
forewent return: Corporate governance and prospect theory. Laeven and Levine
(2008) analyze the impact that corporate governance may have on bank risk-
taking. Examining a database constituted of 300 banks from 48 different
countries, the authors analyze the impact that ownership structure, cash-flow,
capital requirements and supervisory oversight of banks have on the degree of
risk-taking. They arrive at the conclusion that the confluence of large owner-
ship and significant free cash-flow leads to an increase in risk-taking, whereas
capital requirements and the existence of supervisory oversight seem to have
an insignificant effect. This finding is consistent with the free cash-flow prob-
lem pointed by the corporate finance literature, where excess cash can lead
to suboptimal financial decision-making (Shefrin, 2007).
Few attempts have been made to explain the degree of bank risk-taking from a
behavioral approach. Studying a sample of 894 commercial banks in the emerg-
ing economies for the period 1996-2001, Godlewski (2004) intends to scruti-
nize such relationship. Following the above explained Khaneman and Tversky’s
framework, the author examines the effect that point-referencing –that is, the
risk attitude adopted by the bank depending on whether it considers itself on
the psychological domains of losses or the domain of gains- has on the degree
of risk-taking in banks. Godlewski establishes several measures that could serve
as benchmarks upon which the banks’ managements base their risk-taking
decisions. Observing past return-on-equity (R O E ), return-on-assets (R O A ), and
equity-to-total-assets rates –among others- as benchmarks, the author finds
evidence that banks embrace more risk when below past-performance of the
mentioned benchmarks. This way, if a bank’s R O E is below prior measurements
of R O E , such bank is more likely to embrace more risk than it did before. Such
evidence is hard to reconcile with the traditional neoclassical approach to
risk-taking attitudes, and points to the importance of further research exam-
ining the impact of behavioral aspects on a bank’s risk-taking. The methodol-
ogy presented thus far bears an important limitation in this aspect. The fact
that it assumes a risk-averse attitude for the industry implies that the possible
behavioral explanations pointed by Godlewski cannot be tested.
Diego Ramos Toro
213
E. Understanding Risk and Excess-Risk
A first step towards understanding the relationship between the variables con-
structed hereby would be to assess the manner in which classical variables
influence risk, excess-risk, and return. The idea would be to perform a cointe-
gration test to determine whether the series are stationary or not, and to mod-
ify them accordingly in order to attain such stationarity. Such methodology,
unfortunately, is unattainable in this document due to the few observations
available in the used dataset. In spite of such limitation, Table 6 contains the
results of the following regression:
xMPMCLUt
tttt tt
=+ +++++
(9)
Where Xt is the variable of interest in period t –i.e. risk, return, excessive risk,
and excessive risk as a share of observed risk-, MPtcorresponds to the real inter-
est rate of the Central Bank, MCt is the Herfindahl-Hirschman index of mar-
ket concentration, Lt is the debt-to-total-assets ratio, Ut is the unemployment
rate in period t, and t is a time-variable. As mentioned in prior subsections,
MPt MCt and Lt are pointed in the literature as determinants of risk-taking.
On the other hand Ut serves as a proxy variable for the pace of the economic
activity (which may affect the variables), and t is included as a variable that
captures the tendency and that partially solves the problem derived from the
fact that a cointegration test is not attainable for the analyzed dataset. If the
regression were to yield a positive value of , the evidence would suggest a
relationship between monetary stimulus and financial instability in Colombia.
The value of would point to the mechanism that is more likely to act in the
Colombian case between that proposed by Keely (1990) and that proposed by
Boyd and Nicoló (2005). Finally, the parameter would also point to whether
leverage increases financial instability as proposed by Bustamante and Favi-
lukis (2010), or if instead it leads to an increase in stability as proposed by
Dell’Ariccia et al. (2010) and Nicoló et al. (2010).
The results of the regressions are exhibited in Table 6. Such table shows that
the time-tendencies followed by return and risk between December 2007 and
May 2011 are significant. As expected, the rate of return has a strong posi-
tive relation with both the degree of market concentration and the central
bank’s real interest rate. When measured either as standard deviations or as
a share of the observed risk, excess risk exhibits a strong negative relation
Estimating Risk and Excessive Risk-Taking in Colombia’s Commercial Banks
214
with monetary policy as well. This implies that the monetary ease experienced
between 2008 and 2011 in Colombia could have derived in an augmentation
of financial instability. Although not significant, both measures of excess risk
show a negative relation with the amount of leverage in the industry, sug-
gesting that the inverse mechanism between financial stability and leverage
proposed by Dell’Ariccia et al. (2010) and Nicoló et al. (2010) could hold in
the Colombian case. In spite of the fact that these regressions corroborate to
some extent the expected mechanisms, it is important to stress their limita-
tions: they show no causality –merely a relationship between the variables-
and they are subject to the stationarity problem, along with some omitted
variable-problems. The fact that some of the explicative variables show no
level of significance could come from problems associated with the econo-
metric specification, along with the fact that there is a limited dataset that
impedes further econometric refinement.
Table 6. Equation 9. Regressions' Results
Variables (1) Return (2) Risk (3) Excess
Risk (In Std)
(4) Excess Risk
(As a Share)
Real Interest Rate 0.461* -0.0704 -0.285*** -731.7***
(0.268) (0.0755) (0.0849) (208.4)
Debt Ratio 0.230 0,00091 -0.0426 -107.9
(0.169) (0.0478) (0.0537) (132.0)
Herfindahl-
Hirschman
Index
0.00038** 0.00 0.00 -0.169
(0.000157) (4.42e-05) (4.97e-05) (0.122)
t -0.00199*** -0.000271** -9.52e-05 0.221
(0.00047) (0.00013) (0.00015) (0.362)
u 0.156 -0.0111 -0.0313 -112.3
(0.176) (0.0496) (0.0557) (136.9)
Constant -0.248 0.0822* 0.102* 269.0**
(0.161) (0.0455) (0.0512) (125.6)
Observations 42 42 42 42
R-squared 0.905 0.397 0.613 0.772
Standard errors in parentheses
*** p < 0.01, ** p < 0.05, * p < 0.1
Diego Ramos Toro
215
VI. Concluding Remarks
Using a database provided by Superfinanciera and a methodology devel-
oped by Podpiera and Weill (2010), the document calculates risk-taking and
excessive risk-taking for Colombia’s commercial banks. Based on the portfo-
lio theory developed by Markowitz (1952) and on a dataset available for each
month between December 2007 and May 2011, this methodology yields an
aggregate coefficient in standard deviations for both concepts. Although the
measure of excess-risk allows for an interpretation of the suboptimality of
the banking system, such calculation rests upon a risk-averseness assumption.
The general results are: (i) risk and return have shown a general declining ten-
dency (ii) excess-risk (measured in standard deviations) fluctuates over time,
and that it follows an increasing tendency, and (iii) excess-risk denotes an
increasing suboptimality of the banking industry when interpreted as a share
of the observed risk. These findings are consistent with (i) a study performed
by Standard & Poor’s and cited in Portafolio (“Indicadores de Solidez Mejo-
ran en Bancos del País”, published the 27th of September, 2011), a Colombian
financial Newspaper, which asserts that risk in Colombian commercial banks
has declined in the near past, and (ii) the results of Morales (2011), who finds
an increasing instability in Colombian banking system in the same period of
time. Hence, a decrease in risk-taking does not necessarily coincide with an
improvement in the financial stability of the banking system.
It is the goal of future research to construct an extended dataset that enables
econometric refinement, and that allows a deeper scrutiny of the relation-
ship between the variables hereby constructed and other variables. Further-
more, it is important to reproduce the calculations of risk and excessive-risk
taking performed in this document for other financial economies, in order to
enable a cross-country study. Such studies would allow for a deeper under-
standing of the concept of risk-taking and excessive-risk taking, along with
their relationship.
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