The Real Effects of Bank Supervision: Evidence from On-Site Bank Inspections
87 Pages Posted: 3 Nov 2020
Date Written: May 15, 19
We show that bank supervision reduces distortions in credit markets and generates positive spillovers for the real economy. Combining a novel administrative dataset of unexpected bank inspections with a quasi-random selection of inspected banks in Italy, we show that inspected banks are more likely to reclassify loans as non performing after an audit. This behavior suggests that banks are inclined to misreport loan losses and evergreen credit to underperforming ﬁrms unless audited. We ﬁnd that this reclassiﬁcation of loans leads to a temporary contraction in lending by audited banks. However, this eﬀect is completely driven by a credit cut to underperforming ﬁrms, as the composition of new lending shifts toward more productive ﬁrms. As a result, these productive ﬁrms increase employment and invest more in ﬁxed capital. We provide evidence of a mechanisms for our results: a change in bank governance. Finally, we ﬁnd positive spillovers from inspections: entrepreneurship increases, underperforming ﬁrms are more likely to exit the market, and there is an overall increase in productivity in the local economy as a result. Taken together, our results show that bank supervision is an important complement to regulation in improving credit allocation.
Keywords: Bank Supervision, On-site Inspections, Misallocation, Zombie Lending, Real Effects, Firm Productivity
JEL Classification: G21, G28, E44, E51, D22, O47
Suggested Citation: Suggested Citation