The Death of a Regulator: Strict Supervision, Bank Lending and Business Activity

100 Pages Posted: 16 Dec 2018 Last revised: 13 Apr 2022

See all articles by Joao Granja

Joao Granja

University of Chicago - Booth School of Business

Christian Leuz

University of Chicago - Booth School of Business; National Bureau of Economic Research (NBER); Centre for Economic Policy Research (CEPR); European Corporate Governance Institute (ECGI); Leibniz Institute SAFE; CESifo Research Network; Center for Financial Studies (CFS)

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Date Written: March 1, 2019

Abstract

An important question in banking is how strict supervision affects bank lending and in turn local business activity. Supervisors forcing banks to recognize losses could choke off lending and amplify local economic woes. But stricter supervision could also change how banks assess and manage loans. Estimating such effects is challenging. We exploit the extinction of the thrift regulator (OTS) to analyze economic links between strict supervision, bank lending and business activity. We first show that the OTS replacement indeed resulted in stricter supervision of former OTS banks. Next, we analyze the ensuing lending effects. We show that former OTS banks increase small business lending by roughly 10 percent. This increase is concentrated in well-capitalized banks, those more affected by the new regime, and cannot be fully explained by a reallocation from mortgage to small business lending after the crisis. These findings suggest that stricter supervision operates not only through capital but can also correct deficiencies in bank management and lending practices, leading to more lending and a reallocation of loans.

Keywords: Bank regulation, Prudential oversight, Enforcement, Loan Losses, Credit Supply, Business entry and exit

JEL Classification: E44, E51, G21, G28, G32, G38, K22, K23, M41, M48

Suggested Citation

Granja, Joao and Leuz, Christian, The Death of a Regulator: Strict Supervision, Bank Lending and Business Activity (March 1, 2019). Center for Financial Studies Working Paper No. 610, Available at SSRN: https://ssrn.com/abstract=3289934 or http://dx.doi.org/10.2139/ssrn.3289934

Joao Granja

University of Chicago - Booth School of Business ( email )

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Christian Leuz (Contact Author)

University of Chicago - Booth School of Business ( email )

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HOME PAGE: http://faculty.chicagobooth.edu/christian.leuz/

National Bureau of Economic Research (NBER) ( email )

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Centre for Economic Policy Research (CEPR) ( email )

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European Corporate Governance Institute (ECGI)

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Belgium

HOME PAGE: http://www.ecgi.org

Leibniz Institute SAFE ( email )

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Germany

CESifo Research Network

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Center for Financial Studies (CFS) ( email )

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