Transnational Banking Supervision, Distance-to-Distress and Credit Risk: the SSM Case

We assess the impact of adopting a transnational supervisor on the distance-to-distress and credit risk of large and complex banks, exploring the establishment of the Single Supervisory Mechanism (SSM) in 2014 as a quasi-natural experiment. Using a differences-in-differences approach, we compare SSM banks vis-à-vis banks with a similar size and complexity operating in European countries outside the SSM. Our results suggest that adopting a transnational supervisor increases the distance-to-distress, particularly for banks operating in countries with larger banking sectors, higher market concentration and greater supervisory discretion. We also show that SSM banks reduced loan loss reserves and NPLs significantly more than non-SSM banks, but only among the most capitalized banks – which is consistent with the notion that well-capitalized banks are better able to weather haircuts induced by credit risk reduction initiatives. Interestingly, we find that SSM banks from countries with greater supervisory discretion saw their NPLs increase in the first years of the SSM, which could reflect the elimination of national idiosyncrasies in credit risk accounting. In general, the evidence presented in our paper suggests that transnational supervision bears a superior ability to increase the distance-to-distress, reduce credit risk, and harmonize supervisory practices among large and complex banks.