Regulatory and Institutional Determinants of Credit Risk Taking and a Bank's Default in Emerging Market Economies

Regulatory and institutional environment is not without effect on a bank's risk taking and therefore on a bank's default. In this article, we investigate regulatory and institutional determinants of credit risk taking and bank's default probability in emerging market economies. Using a two step logit model applied to a database of banks from emerging economies, we confirm the role of the institutional and regulatory environment as a source of excess credit risk, which increases a bank's default risk. In particular, the rule of law appears to be a crucial element of an efficient regulatory environment, which may reduce excessive risk taking incentives.