Thursday, December 26, 2013

"The Interrupted Power Law and The Size of Shadow Banking"


Using public data (Forbes Global 2000) we show that the distribution of asset sizes for the largest global firms follows a Pareto distribution in an intermediate range that is "interrupted" by a sharp cutoff in its upper tail, which is totally dominated by financial firms. This contrasts with a large body of empirical literature which finds a Pareto distribution for firm sizes both across countries and over time. Pareto distributions are generally traced back to a mechanism of proportional random growth, based on a regime of constant returns to scale: this makes our evidence of an "interrupted" Pareto distribution all the more puzzling, because we provide evidence that financial firms in our sample operate in such a regime.
We claim that the missing mass from the upper tail of the asset size distribution is a consequence of shadow banking activity and that it provides an estimate of the size of the shadow banking system. This estimate -- that we propose as a shadow banking index -- compares well with estimates of the Financial Stability Board until 2009, but it shows a sharper rise in shadow banking activity after 2010.
12 page PDF