Did the Financial Reforms of the Early 1990s Fail? A Comparison of Bank Failures and FDIC Losses in the 1986-92 and 2007-13 Periods

39 Pages Posted: 13 Aug 2015

See all articles by Eliana Balla

Eliana Balla

Federal Reserve Banks - Federal Reserve Bank of Richmond

Edward S. Prescott

Federal Reserve Banks - Federal Reserve Bank of Cleveland

John R. Walter

Federal Reserve Banks - Federal Reserve Bank of Richmond

Date Written: 2015-05-15

Abstract

Two of the most significant banking reforms to come out of the banking problems in the late 1980s and early 1990s were the increase in capital requirements from Basel 1 and the prompt corrective action (PCA) provisions of the Federal Deposit Insurance Corporation Improvement Act of 1991 (FDICIA). The PCA provisions require regulators to shut down banks before book capital becomes negative. We compare failures and FDIC losses on commercial banks in the pre-FDICIA commercial bank crisis of the mid-1980s to early 1990s with that in the recent financial crisis. Using a sample of community and mid-sized banks, we find that almost all the same bank characteristics predict failure and high losses in the two crises. Our results imply that for these classes of banks, the two crises were very similar. We find that the failure rate in the recent period was driven more by severe economic conditions than by the increased concentrations in real estate lending. The analysis suggests that the combination of PCA with higher capital levels helped reduce failure rates in the recent period. In contrast, the analysis suggests that the reforms did not help with FDIC losses. FDIC losses on failed commercial banks were approximately 14% of failed bank assets over the 1986-92 period but increased to approximately 24% over the 2007-13 period. We find that the increased losses are not explained by variations in bank balance sheets or local economic conditions. Finally, we find that a discretionary accounting variable, interest accrued but not yet received, is predictive of both failure and higher FDIC losses.

JEL Classification: G21, G28

Suggested Citation

Balla, Eliana and Prescott, Edward (Ned) Simpson and Walter, John R., Did the Financial Reforms of the Early 1990s Fail? A Comparison of Bank Failures and FDIC Losses in the 1986-92 and 2007-13 Periods (2015-05-15). FRB Richmond Working Paper No. 15-05. Available at SSRN: https://ssrn.com/abstract=2643141 or http://dx.doi.org/10.2139/ssrn.2643141

Eliana Balla (Contact Author)

Federal Reserve Banks - Federal Reserve Bank of Richmond ( email )

P.O. Box 27622
Richmond, VA 23261
United States

Edward (Ned) Simpson Prescott

Federal Reserve Banks - Federal Reserve Bank of Cleveland ( email )

P.O. Box 6387
Cleveland, OH 44101
United States

HOME PAGE: http://https://www.clevelandfed.org/people-search?pid=f8ca941e-4b51-41f6-95f8-c87f1d3806e5

John R. Walter

Federal Reserve Banks - Federal Reserve Bank of Richmond ( email )

P.O. Box 27622
Richmond, VA 23261
United States

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