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Corporate Control, Portfolio Choice, and the Decline of Banking

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  • Gary Gorton
  • Richard Rosen

Abstract

In the last two decades U.S. banks have become systematically less profitable and riskier as nonbank competition has eroded the profitability of banks' traditional activities. Bank failures, insignificant from 1934, the date the Glass-Steagall Act was passed, until 1980, rose exponentially in the 1980s. The leading explanation for the persistence of these trends centers on fixed-rate deposit insurance: the insurance gives bank shareholders an incentive to take on risk when the value of bank charters falls. We propose and test an alternative explanation based on corporate control considerations. We show that managerial entrenchment, more than moral hazard associated with deposit insurance, explains the recent behavior of the banking industry.

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Bibliographic Info

Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 4247.

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Date of creation: Dec 1992
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Publication status: published as Journal of Finance, Vol. 50, no. 5 (1995): 1377-1420.
Handle: RePEc:nbr:nberwo:4247

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