Corporate Governance and the Systemic Risk: A Test of Bundling Hypothesis

We provide new evidence that the systemic risk of large banks is higher when the external and internal corporate governance mechanisms complement each other. Using a sample of large European banks from 2000 to 2016, we examine the relationship between various internal and external corporate governance mechanisms and the level of systemic risk. Specifically, we analyze how monitoring by institutional investors complements or substitutes various board-level governance mechanisms in determining systemic risk of a bank. Our empirical findings show that external (institutional ownership) and internal (board level) governance mechanisms complement each other to determine the level of systemic risk of a sample of domestic systemically important banks. Our results are robust to the alternative systemic risk measures and additional controls. We conclude that banks have strategic flexibility in terms of configuring their corporate governance structures to attain similar levels of systemic risk.