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How much did banks pay to become too-big-to-fail and to become systematically important?

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  • Elijah Brewer, III
  • Julapa Jagtiani

Abstract

This paper estimates the value of the too-big-to-fail (TBTF) subsidy. Using data from the merger boom of 1991-2004, the authors find that banking organizations were willing to pay an added premium for mergers that would put them over the asset sizes that are commonly viewed as the thresholds for being TBTF. They estimate at least $15 billion in added premiums for the eight merger deals that brought the organizations to over $100 billion in assets. In addition, the authors find that both the stock and bond markets reacted positively to these TBTF merger deals. Their estimated TBTF subsidy is large enough to create serious concern, particularly since the recently assisted mergers have effectively allowed for TBTF banking organizations to become even bigger and for nonbanks to become part of TBTF banking organizations, thus extending the TBTF subsidy beyond banking.

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Bibliographic Info

Paper provided by Federal Reserve Bank of Philadelphia in its series Working Papers with number 11-37.

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Date of creation: 2011
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Handle: RePEc:fip:fedpwp:11-37

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Keywords: Bank mergers;

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  1. Edward Kane, 2009. "Extracting Nontransparent Safety Net Subsidies by Strategically Expanding and Contracting a Financial Institution’s Accounting Balance Sheet," Journal of Financial Services Research, Springer, vol. 36(2), pages 161-168, December.
  2. Julie Wulf, 2004. "Do CEOs in Mergers Trade Power for Premium? Evidence from "Mergers of Equals"," Journal of Law, Economics and Organization, Oxford University Press, Oxford University Press, vol. 20(1), pages 60-101, April.
  3. White, Halbert, 1980. "A Heteroskedasticity-Consistent Covariance Matrix Estimator and a Direct Test for Heteroskedasticity," Econometrica, Econometric Society, Econometric Society, vol. 48(4), pages 817-38, May.
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  5. Kenneth A. Carow & Edward J. Kane & Rajesh P. Narayanan, 2005. "How have borrowers fared in banking mega-mergers?," Working Paper Series 2005-09, Federal Reserve Bank of San Francisco.
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  7. Robert DeYoung & Douglas Evanoff & Philip Molyneux, 2009. "Mergers and Acquisitions of Financial Institutions: A Review of the Post-2000 Literature," Journal of Financial Services Research, Springer, vol. 36(2), pages 87-110, December.
  8. Viral Acharya & Tanju Yorulmazer, 2007. "Too many to fail - an analysis of time-inconsistency in bank closure policies," Bank of England working papers 319, Bank of England.
  9. Penas, Maria Fabiana & Unal, Haluk, 2004. "Gains in bank mergers: Evidence from the bond markets," Journal of Financial Economics, Elsevier, vol. 74(1), pages 149-179, October.
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  11. George G. Kaufman, 1991. "Capital in banking: past, present and future," Working Paper Series, Issues in Financial Regulation 91-10, Federal Reserve Bank of Chicago.
  12. Ingo Walter & Markus M. Schmid, 2006. "Do Financial Conglomerates Create or Destroy Economic Value?," Working Papers, New York University, Leonard N. Stern School of Business, Department of Economics 06-28, New York University, Leonard N. Stern School of Business, Department of Economics.
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  14. Craig O. Brown & I. Serdar Dinç, 0. "Too Many to Fail? Evidence of Regulatory Forbearance When the Banking Sector Is Weak," Review of Financial Studies, Society for Financial Studies, vol. 24(4), pages 1378-1405.
  15. O'Hara, Maureen & Shaw, Wayne, 1990. " Deposit Insurance and Wealth Effects: The Value of Being "Too Big to Fail."," Journal of Finance, American Finance Association, vol. 45(5), pages 1587-1600, December.
  16. Huberto M. Ennis & H.S. Malek, 2005. "Bank risk of failure and the too-big-to-fail policy," Economic Quarterly, Federal Reserve Bank of Richmond, Federal Reserve Bank of Richmond, issue Spr, pages 21-44.
  17. Houston, Joel F. & Ryngaert, Michael D., 1994. "The overall gains from large bank mergers," Journal of Banking & Finance, Elsevier, vol. 18(6), pages 1155-1176, December.
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Blog mentions

As found by EconAcademics.org, the blog aggregator for Economics research:
  1. The economics of enormity
    by ? in Free exchange on 2012-11-03 14:44:50
  2. We Must 'Stand Up to Concentrated and Powerful Corporate Interests'
    by ? in Economist's View on 2012-11-08 18:41:53
  3. 10 Tuesday PM Reads
    by Barry Ritholtz in The Big Picture on 2012-11-13 21:00:42
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Cited by:
  1. Kersten Kellermann, 2011. "Too big to fail: a thorn in the side of free markets," Empirica, Springer, vol. 38(3), pages 331-349, July.
  2. Jokivuolle, Esa & Keppo, Jussi, 2014. "Bankers' compensation: Sprint swimming in short bonus pools?," Research Discussion Papers 2/2014, Bank of Finland.
  3. Philip E. Strahan, 2013. "Too Big to Fail: Causes, Consequences, and Policy Responses," Annual Review of Financial Economics, Annual Reviews, vol. 5(1), pages 43-61, November.
  4. Hakenes , Hendrik & Hasan, Iftekhar & Molyneux, Phil & Xie , Ru, 2014. "Small banks and local economic development," Research Discussion Papers 5/2014, Bank of Finland.
  5. Joseph J. Hughes & Loretta Mester, 2011. "Who Said Large Banks Don't Experience Scale Economies? Evidence from a Risk-Return-Driven Cost Function," Departmental Working Papers, Rutgers University, Department of Economics 201127, Rutgers University, Department of Economics.
  6. Mark Mink & Jakob de Haan, 2014. "Spillovers from Systemic Bank Defaults," CESifo Working Paper Series 4792, CESifo Group Munich.
  7. Montgomery, Heather & Takahashi, Yuki, 2011. "The Japanese Big Bang: the effects of "free, fair and global"," MPRA Paper 35040, University Library of Munich, Germany.
  8. Selgin, George & Lastrapes, William D. & White, Lawrence H., 2012. "Has the Fed been a failure?," Journal of Macroeconomics, Elsevier, vol. 34(3), pages 569-596.
  9. Löffler, Gunter & Posch, Peter N, 2013. "Wall Street’s bailout bet: Market reactions to house price releases in the presence of bailout expectations," Journal of Banking & Finance, Elsevier, vol. 37(12), pages 5147-5158.
  10. Tigran Poghosyan & Charlotte Werger & Jakob de Haan, 2014. "Size and support ratings of US banks," DNB Working Papers, Netherlands Central Bank, Research Department 434, Netherlands Central Bank, Research Department.
  11. Benjamin M. Tabak & Dimas M. Fazio & Daniel O. Cajueiro, 2011. "Profit, Cost and Scale Efficiency for Latin American Banks: Concentration-Performance Relationship," Working Papers Series, Central Bank of Brazil, Research Department 244, Central Bank of Brazil, Research Department.
  12. Raquel de F. Oliveira & Rafael F. Schiozer & Lucas A. B. de C. Barros, 2011. "Too Big to Fail Perception by Depositors: an empirical investigation," Working Papers Series, Central Bank of Brazil, Research Department 233, Central Bank of Brazil, Research Department.

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