TARP and Market Discipline: Evidence on the Moral Hazard Effects of Bank Recapitalizations

Jens Forssbæck and Caren Yinxia Nielsen

No 2016:10, Working Papers from Lund University, Department of Economics

Abstract: We examine the moral hazard effects of bank recapitalizations by assessing the impact of the U.S. TARP program on market discipline exerted by subordinated debt-holders using a sample of 123 bank holding companies over the period 2004-2013. Predicted distress risk has a consistently positive and significant effect on sub-debt spreads, suggesting the presence of market discipline. A higher bailout probability significantly reduces the risk-sensitivity of spreads for the full sample, indicating a moral hazard effect of recapitalizations. This appears to be a too-big-to-fail effect, as it is absent when the largest banks are dropped from the sample. Results indicate that it is transitory. We also find a large effect of the crisis, appearing both as a uniform rise in, and a heightened risk sensitivity of, sub-debt spreads during the crisis.

Keywords: Bank bailouts; moral hazard; distress risk; capital injections; TARP; CPP; market discipline; financial crisis (search for similar items in EconPapers)
JEL-codes: E50 G01 G21 G28 H12 (search for similar items in EconPapers)
Pages: 49 pages
Date: 2016-06-13
New Economics Papers: this item is included in nep-ban and nep-mac
References: Add references at CitEc
Citations: View citations in EconPapers (6)

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Related works:
Working Paper: TARP and market discipline: Evidence on the moral hazardeffects of bank recapitalizations (2015)
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Persistent link: https://EconPapers.repec.org/RePEc:hhs:lunewp:2016_010

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