Subprime Governance: Agency Costs in Vertically Integrated Banks and the 2008 Mortgage Crisis

Forthcoming in Strategic Management Journal

40 Pages Posted: 9 Dec 2015

See all articles by Claudine Madras Gartenberg

Claudine Madras Gartenberg

Wharton

Lamar Pierce

Washington University, Saint Louis - John M. Olin School of Business

Date Written: December 7, 2015

Abstract

This study uses the 2008 mortgage crisis to demonstrate how the relationship between vertical integration and performance crucially depends on corporate governance. Prior research has argued that the vertical integration of mortgage origination and securitization aligned divisional incentives and improved lending quality. We show that vertical integration improved loan performance only in those firms with strong corporate governance and that this performance-integration relationship strongly decreases and actually reverses as governance quality decreases. We interpret these findings as suggesting that the additional control afforded by vertical integration can, in the hands of poorly monitored managers, offset gains from aligned divisional incentives. These findings support the view that corporate governance influences the strategic outcomes of a firm, in our case, by influencing the effectiveness of boundary decisions.

Keywords: Vertical integration, Corporate governance, Transaction cost economics, Mortgage securitization, Boundaries of the firm

JEL Classification: D21, G20, G21, G3, G34, L2, L22

Suggested Citation

Gartenberg, Claudine Madras and Pierce, Lamar, Subprime Governance: Agency Costs in Vertically Integrated Banks and the 2008 Mortgage Crisis (December 7, 2015). Forthcoming in Strategic Management Journal. Available at SSRN: https://ssrn.com/abstract=2700389

Claudine Madras Gartenberg (Contact Author)

Wharton ( email )

The Wharton School
Philadelphia, PA 19104-6370
United States
2158987755 (Phone)

Lamar Pierce

Washington University, Saint Louis - John M. Olin School of Business ( email )

One Brookings Drive
Campus Box 1133
St. Louis, MO 63130-4899
United States
314-935-5205 (Phone)

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