The Effect of Bank Supervision on Risk Taking: Evidence from a Natural Experiment

51 Pages Posted: 7 Sep 2017

See all articles by John Kandrac

John Kandrac

Board of Governors of the Federal Reserve System

Bernd Schlusche

Board of Governors of the Federal Reserve System

Multiple version iconThere are 2 versions of this paper

Date Written: 2017-08-09

Abstract

In this paper, we exploit a natural experiment in which thrifts in several states witnessed an exogenous reduction in supervisory attention to assess the effect of supervision on financial institutions' willingness to take risk. We show that the affected institutions took on much more risk than their unaffected counterparts in other districts that were subject to identical regulations. Subsequent to the emergency enlistment of examiners and supervisors from other parts of the country two years later, additional risk taking by the affected thrifts ceased. We find that the expansion in risk taking resulted in a higher incidence of failure as well as more costly failures. None of these patterns are present in commercial banks subject to a different primary supervisory agent but otherwise similar to the thrifts in our sample.

Keywords: S&L crisis, Bank supervision, Lending, Resolution costs, Risk taking

JEL Classification: G01, G21, G28

Suggested Citation

Kandrac, John and Schlusche, Bernd, The Effect of Bank Supervision on Risk Taking: Evidence from a Natural Experiment (2017-08-09). FEDS Working Paper No. 2017-079. Available at SSRN: https://ssrn.com/abstract=3029729 or http://dx.doi.org/10.17016/FEDS.2017.079

John Kandrac (Contact Author)

Board of Governors of the Federal Reserve System ( email )

20th Street and Constitution Avenue NW
Washington, DC 20551
United States

Bernd Schlusche

Board of Governors of the Federal Reserve System ( email )

20th Street and Constitution Avenue NW
Washington, DC 20551
United States

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