Herding Behavior in Bank Lending: Evidence from U.S. Commercial Banks

Abstract

While numerous theories exist to explain the motivations behind herding, little empirical work has been done to document the extent that herding exists in the banks or link different hypotheses to actual bank herding behavior. This paper aims to fill the gap by applying the Lakonishock, Shleifer and Vishny (LSV) and Frey, Herbst and Walter (FHW) herding measures to U.S. commercial banks during the period from 1976 to 2010 to document bank herding behavior across the various categories of loans. I find that significant herding exists in that banks extend similar kinds of loans at the same time. I also examine how herding has changed in response to changes in macroeconomic conditions and bank financial health over the past 30 year period. While clearly bank health and macroeconomic conditions are related, I find that even after controlling for macroeconomic conditions, banks tend to herd more when they are struggling. I also find that small banks tend to herd more than big ones. Overall, the results suggest that herding is motivated by declining bank performance, and are consistent with the information asymmetry and regulatory arbitrage hypothesis.

Keywords: Financial Institution; U.S. Commercial Bank; Bank Lending; Herding

JEL Classification: G01; G21; E32