The Costs of Closing Failed Banks: A Structural Estimation of Regulatory Incentives
Ari Choi Kang
University of Texas at Austin - Department of Finance
University of Texas-Austin
University of Texas - Dallas
October 17, 2012
We estimate a dynamic model of the decision of the Federal Deposit Insurance Corporation (FDIC) to close a troubled bank. The FDIC trades off the costs of bank closure against the risk of increased costs of closure in future periods. Further, the FDIC bears an additional non-monetary cost for closing banks, which represents the desire on the part of the regulator to keep institutions open. Our results indicate that, controlling for monetary costs, the FDIC avoids closing both the largest banks and the smallest banks and prefers closing banks facing more acute operational losses. We find some evidence of political influence on closure decisions. The estimated direct monetary costs associated with closing the median distressed bank is $1 million, with an additional non-monetary cost equivalent to $10 million denominated in lost taxpayer dollars. For banks that are most likely to be closed, however, the average monetary cost and the average non-monetary costs are both around $20 million.
Number of Pages in PDF File: 47
Keywords: bank failures, dynamic structural estimation
JEL Classification: E53, G28working papers series
Date posted: October 18, 2012 ; Last revised: September 27, 2013
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