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Safer ratios, riskier portfolios: Banks׳ response to government aid

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  • Duchin, Ran
  • Sosyura, Denis

Abstract

Using novel data on bank applications to the Troubled Asset Relief Program (TARP), we study the effect of government assistance on bank risk taking. Bailed-out banks initiate riskier loans and shift assets toward riskier securities after receiving government support. However, this shift in risk occurs mostly within the same asset class and, therefore, remains undetected by regulatory capital ratios, which indicate improved capitalization at bailed-out banks. Consequently, these banks appear safer according to regulatory ratios, but show an increase in volatility and default risk. These findings are robust to controlling for credit demand and account for selection of TARP recipients by exploiting banks׳ geography-based political connections as an instrument for bailout approvals.

Suggested Citation

  • Duchin, Ran & Sosyura, Denis, 2014. "Safer ratios, riskier portfolios: Banks׳ response to government aid," Journal of Financial Economics, Elsevier, vol. 113(1), pages 1-28.
  • Handle: RePEc:eee:jfinec:v:113:y:2014:i:1:p:1-28
    DOI: 10.1016/j.jfineco.2014.03.005
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    More about this item

    Keywords

    Bailout; TARP; Risk; Lending; Financial crisis; Moral hazard; Banking;
    All these keywords.

    JEL classification:

    • E51 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Money Supply; Credit; Money Multipliers
    • G01 - Financial Economics - - General - - - Financial Crises
    • 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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