Did FDICIA enhance market discipline on community banks? a look at evidence from the jumbo-CD market
The Federal Deposit Insurance Corporation Improvement Act of 1991 (FDICIA) directed the FDIC to resolve bank failures in the least costly manner, shifting more of the failure-resolution burden to jumbo-CD holders. We examine the sensitivity of jumbo-CD yields and runoffs to failure risk before and after FDICIA. We also examine the economic significance of estimated risk sensitivities before and after the Act, looking at the implied impact of risk on bank funding costs and profits. The evidence indicates that yields and runoff were sensitive to risk before and after FDICIA, but that this sensitivity, which was always economically small, did not differ significantly across the two sample periods. We conclude that, despite FDICIA, the jumbo-CD market puts little pressure on banks to contain risk. This finding weakens the case for market discipline as a reliable pillar of bank supervision.
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