How Important Is Moral Hazard for Distressed Banks?

Itzhak Ben-David, Ajay A. Palvia and Rene M. Stulz
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Ajay A. Palvia: Division of Insurance and Research, FDIC
Rene M. Stulz: Ohio State U and European Corporate Governance Institute

Working Paper Series from Ohio State University, Charles A. Dice Center for Research in Financial Economics

Abstract: The moral hazard incentives of the bank safety net predict that distressed banks take on more risk and higher leverage. Since many factors reduce these incentives, including charter value, regulation, and managerial incentives, the net economic effect of these incentives is an empirical question. We provide evidence on this question using two distinct periods that include financial crises and are subject to different regulatory regimes (1985–1994, 2005–2014). We find that distressed banks reduce their leverage and decrease observable measures of riskiness, which is inconsistent with the view that, on average, moral hazard incentives dominate distressed bank leverage and risk-taking policies.

JEL-codes: G11 G21 G33 (search for similar items in EconPapers)
Date: 2020-07
New Economics Papers: this item is included in nep-ban
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Citations: View citations in EconPapers (4)

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Persistent link: https://EconPapers.repec.org/RePEc:ecl:ohidic:2020-09

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