How do banks respond to misconduct costs?

Belinda Tracey and Rhiannon Sowerbutts

Journal of Banking & Finance, 2025, vol. 178, issue C

Abstract: Over the past 15 years, banks around the world have been confronted with substantial costs related to misconduct. In this paper, we examine the impact of provisions for misconduct costs on the behavior of UK banks. We first document that misconduct provisions have a significant and negative effect on capital ratios. Next, we show that banks whose capital is reduced by misconduct provisions decrease non-lending activities but increase lending. Lending growth is driven by profitable higher loan-to-value mortgages, which typically incur a lower capital risk-weighting compared to non-lending activities. These results suggest that when faced with a capital shock due to misconduct provisions, banks restore their capital ratios by shifting their balance sheet towards activities that optimize the ratio of profitability to risk-weighted assets.

Keywords: Bank misconduct; Bank capital ratios; Credit supply; Risk-taking (search for similar items in EconPapers)
JEL-codes: G21 G28 (search for similar items in EconPapers)
Date: 2025
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Persistent link: https://EconPapers.repec.org/RePEc:eee:jbfina:v:178:y:2025:i:c:s0378426625000330

DOI: 10.1016/j.jbankfin.2025.107413

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