When Time Is Not on Our Side: The Costs of Regulatory Forbearance in the Closure of Insolvent Banks

Abstract

In this paper, we empirically estimate the costs of delay in the FDIC’s closures of 433 commercial banks between 2007 and 2014 based upon a counterfactual closure regime. We find that the costs of delay could have been as high as $18.5 billion, or 37% of the FDIC’s estimated costs of closure of $49.8 billion. We think that these findings call for a more aggressive stance by bank regulators with respect to the provisions for loan losses and write-downs of banks’ non-performing assets. More aggressive (and earlier) provisions and write-downs, or adoption of a capital ratio that penalizes nonperforming loans, would allow the concept of “prompt corrective action” (PCA) to play the role that it was meant to play in reducing FDIC losses from insolvent banks.

Keywords: bank, bank failure, CAMELS, commercial real estate, failure cost, FDIC, financial crisis, forbearance, insolvent

JEL Classification: G17, G21, G28