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Inconsistent Regulators: Evidence from Banking

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  • Sumit Agarwal
  • David Lucca
  • Amit Seru
  • Francesco Trebbi

Abstract

We find that regulators can implement identical rules inconsistently due to differences in their institutional design and incentives, and this behavior may adversely impact the effectiveness with which regulation is implemented. We study supervisory decisions of U.S. banking regulators and exploit a legally determined rotation policy that assigns federal and state supervisors to the same bank at exogenously set time intervals. Comparing federal and state regulator supervisory ratings within the same bank, we find that federal regulators are systematically tougher, downgrading supervisory ratings almost twice as frequently as do state supervisors. State regulators counteract these downgrades to some degree by upgrading more frequently. Under federal regulators, banks report worse asset quality, higher regulatory capital ratios, and lower return on assets. Leniency of state regulators relative to their federal counterparts is related to costly outcomes, such as higher failure rates and lower repayment rates of government assistance funds. The discrepancy in regulator behavior is related to different weights given by regulators to local economic conditions and, to some extent, differences in regulatory resources. We find no support for regulator self-interest, which includes “revolving doors” as a reason for leniency of state regulators.

Suggested Citation

  • Sumit Agarwal & David Lucca & Amit Seru & Francesco Trebbi, 2014. "Inconsistent Regulators: Evidence from Banking," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 129(2), pages 889-938.
    • Handle: RePEc:oup:qjecon:v:129:y:2014:i:2:p:889-938
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    More about this item

    JEL classification:

    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation

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