Bank on it
Elections, political competition and bank failure
Wai-Man Liu & Phong Ngo
Journal of Financial Economics, forthcoming
Abstract:
We exploit exogenous variation in the scheduling of gubernatorial elections to study the timing of bank failure in the US. Using hazard analysis, we show that bank failure is about 45% less likely in the year leading up to an election. Political control (i.e., lack of competition) can explain all of this average election year fall in the hazard rate. In particular, we show that the reduction in hazard rate doubles in magnitude for banks operating in states where the governor has simultaneous control of the upper and lower houses of the state legislature (i.e., complete control) heading into an election.
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When Real Estate is the Only Game in Town
Hyun-Soo Choi et al.
NBER Working Paper, January 2014
Abstract:
Using data on household portfolios and mortgage originations, we find that households residing in a city with few publicly traded firms headquartered there are more likely to own an investment home nearby. Households in these areas are also less likely to own stocks. This only-game-in-town effect is more pronounced for households living in high credit quality areas, who can access financing to afford a second home. This effect also becomes pronounced for households living in low credit quality areas after 2002 when securitization made it easier for these households to buy second homes. Cities with few local stocks have in equilibrium higher price-to-rent ratios, making it more attractive to rent, and lower (primary residence) homeownership rates.
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Limited and Varying Consumer Attention: Evidence from Shocks to the Salience of Bank Overdraft Fees
Victor Stango & Jonathan Zinman
Review of Financial Studies, forthcoming
Abstract:
We explore dynamics of limited attention in the $35 billion market for checking overdrafts, using survey content as shocks to the salience of overdraft fees. Conditional on selection into surveys, individuals who face overdraft-related questions are less likely to incur a fee in the survey month. Taking multiple overdraft surveys builds a "stock" of attention that reduces overdrafts for up to two years. The effects are significant among consumers with lower education and financial literacy. Individuals avoid overdrafts by making fewer low-balance debit transactions and cancelling automatic recurring withdrawals. The results raise new questions about consumer financial protection policy.
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Is home maintenance contagious? Evidence from Boston
Erin Graves
Federal Reserve Working Paper, December 2013
Abstract:
In disadvantaged neighborhoods, the condition of the housing stock can vary from block to block. On one block, homes appear well kept and in good condition, while on another, many homes show signs of physical distress. Since the blocks within the same neighborhood are often similar in terms of home values, what accounts for this pattern? The physical condition of the parcels could correspond to the level of home ownership, so that blocks with higher levels of home ownership are better maintained. It could also be that home maintenance is contagious and neighbors' efforts toward exterior home maintenance influence other neighbors. The potential impact of a housing investment that improves the appearance of a housing parcel is also unknown. When a blighted property is improved, this investment could encourage neighbors to maintain their own parcels better. That is, a contagion effect could operate whereby one neighbor's efforts to improve the physical appearance of his or her housing parcel influence other neighbors to take similar action. We investigated the potential for home-maintenance contagion by tracking the physical condition of residential parcels before and after an abandoned abutting home underwent significant renovation. We found no evidence of the contagion effect, and the renovation of an abandoned home had no measurable effect on the abutting neighbors' level of maintenance of their parcels in the short run. Of the variables investigated, only home ownership was significantly associated with better home maintenance.
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Misinformed Speculators and Mispricing in the Housing Market
Alex Chinco & Christopher Mayer
NBER Working Paper, January 2014
Abstract:
This paper uses transactions-level deeds records to examine how out-of-town second house buyers contributed to mispricing in the housing market. We document that out-of-town second house buyers behaved like misinformed speculators and drove up both house price and implied-to-actual rent ratio (IAR) appreciation rates in cities like Phoenix, Las Vegas, and Miami in the mid 2000s. Our analysis has 3 parts. First, we give evidence that out-of-town second house buyers behaved like misinformed speculators. Compared to local second house buyers, out- of-town second house buyers had worse exit timing (i.e., were likely misinformed) and were also less able to consume the dividend from their purchase (i.e., were likely speculators). Second, we show that increases in out-of-town second house buyer demand predict increases in future house price appreciation rates and IAR appreciation rates. A 10%pt increase in the fraction of sales made to out-of-town second house buyers is associated with a 6%pt increase in house price appreciation rates and a 9%pt increase in IAR appreciation rates over the course of the next year in that city. Third, we address the issue of reverse causality using a novel econometric strategy. The key insight is that an increase in the fundamental value of owning a second house in Phoenix is a common shock to the investment opportunity set of all potential second house buyers. If changes to fundamentals were driving both price dynamics as well as out-of-town second house buyer demand, we would expect to see large jumps in house price and IAR appreciation rates preceded by increases in out-of-town second house buyer demand from across the country. The data do not display this symmetric response, and are thus inconsistent with reverse causality. We conclude by discussing both the economic magnitudes of out-of-town second house buyer flows and the broader applicability of our econometric approach.
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Has market discipline on banks improved after the Dodd-Frank Act?
Bhanu Balasubramnian & Ken Cyree
Journal of Banking & Finance, April 2014, Pages 155-166
Abstract:
We investigate whether or not market discipline on banking firms changed after the Dodd-Frank Wall Street Reform and Consumer Protection Act (DFA) of 2010. If market discipline is improved, we should see a lower discount for size on yield spreads, particularly for banks identified as too-big-to-fail (TBTF) or systemically important (SIFI). Using secondary market subordinated debt transactions we find that the size discount is reduced by 47 percent and TBTF discount is reduced by 94 percent after the DFA. The DFA has been effective in reducing, but not in eliminating the size and TBTF discounts on yield spreads. Market discipline of banks appears to have improved further after the rating criteria changes by Moody's.
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Mortgage Concentration, Foreclosures and House Prices
Giovanni Favara & Mariassunta Giannetti
Federal Reserve Working Paper, January 2014
Abstract:
Previous work has shown that mortgage foreclosures generate a negative externality on nearby house prices. In this paper, we conjecture that lenders with a larger share of a neighborhood's outstanding mortgages on their balance sheets internalize this externality and are thus more inclined to renegotiate defaulting loans. We provide evidence supporting this conjecture using zip code level data on house prices and foreclosures during the 2007-2009 US housing market crisis. We find that zip codes with larger concentration of outstanding mortgages experienced fewer foreclosures and smaller declines in house prices. These findings are not driven by prior local economic conditions, mortgage securitization or ex-ante lenders characteristics, and hold within geographical areas exposed to common economic shocks, such as MSAs or counties. We also find that the concentration of outstanding mortgages matters more in ZIP codes of non-judicial states where foreclosure procedures are less costly.
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Bailouts and Systemic Insurance
Giovanni Dell'Ariccia & Lev Ratnovski
IMF Working Paper, November 2013
Abstract:
We revisit the link between bailouts and bank risk taking. The expectation of government support to failing banks creates moral hazard - increases bank risk taking. However, when a bank's success depends on both its effort and the overall stability of the banking system, a government's commitment to shield banks from contagion may increase their incentives to invest prudently and so reduce bank risk taking. This systemic insurance effect will be relatively more important when bailout rents are low and the risk of contagion (upon a bank failure) is high. The optimal policy may then be not to try to avoid bailouts, but to make them "effective": associated with lower rents.
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National Banking's Role in U.S. Industrialization, 1850-1900
Matthew Jaremski
Journal of Economic History, March 2014, Pages 109-140
Abstract:
The passage of the National Banking Acts stabilized the existing financial system and encouraged the entry of 729 banks between 1863 and 1866. These new banks concentrated in the area that would eventually become the Manufacturing Belt. Using a new bank census, the article shows that these changes to the financial system were a major determinant of the geographic distribution of manufacturing and the nation's sudden capital deepening. The entry not only resulted in more manufacturing capital and output at the county level, but also more steam engines and value added at the establishment level.
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Sumit Agarwal et al.
NBER Working Paper, February 2014
Abstract:
We explore the effects of mandatory third-party review of mortgage contracts on consumer choice - including the terms and demand for mortgage credit. Our study is based on a legislative pilot carried out by the State of Illinois in a selected set of zip codes in 2006. Mortgage applicants with low FICO scores were required to attend loan reviews by financial counselors. Applicants with high FICO scores had to attend counseling only if they chose "risky mortgages." We find that low-FICO applicants for whom counselor review was mandatory did not materially change their contract choice. Conversely, applicants who could avoid counseling by choosing less risky mortgages did so. Ironically, the ultimate goals of the legislation (e.g., better loan terms for borrowers) were only achieved among the population that was not counseled. We also find significant adjustments in lender behavior as a result of the counseling program.
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Alvis Lo
Journal of Accounting Research, forthcoming
Abstract:
I examine whether declines in banks' financial health affect their borrowers' disclosures. Prior studies indicate that, in relationship lending, banks and borrowers rely on private communication, rather than public disclosures, to resolve information asymmetries. When banking relationships are threatened, borrowers must turn to new funding sources, inducing them to reconsider their disclosure policies. This paper predicts that borrowers whose banking relationships are threatened by declining bank health change their public disclosures of forward-looking information. Using the emerging-market financial crises in the late 1990s as shocks to the health of certain U.S. banks, I find that affected banks' U.S. borrowers increase both the quantity and informativeness of their management forecasts following these shocks compared to borrowers of unaffected banks. The results are similar using conference calls or the length of the MD&A as alternative proxies for voluntary disclosure. Overall, these results provide new insights into the impact of availability of relationship lending on firms' disclosure choices.
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Agency problems, accounting slack, and banks' response to proposed reporting of loan fair values
Leslie Hodder & Patrick Hopkins
Accounting, Organizations and Society, forthcoming
Abstract:
We investigate the determinants of bank representatives' responses to the United States Financial Accounting Standard Board's 2010 Exposure Draft that proposes fair value measurement for most financial instruments. Over 85% of the 2971 comment letters were received from bank representatives, with most bank-affiliated letters addressing - and opposing - one issue: fair value measurement of loans. The Exposure Draft proposes that companies report both fair value and amortized cost measures for loans; thus, the proposal should result in increased levels of loan-related information and improved financial reporting transparency. We investigate three reasons for bank representatives' resistance. First, fair value measurement should result in less accounting slack than the current incurred-loss model for loan impairments; therefore, we propose that representatives from banks that historically utilized that slack will resist fair value measurement for loans. Second, we propose that agency problems are an important motivating factor because bank representatives reaping more private benefits from their franchises have less incentive to support increases in financial reporting transparency. Third, we test whether the most common reasons for opposition included in the comment letters are associated with negative letter writing. Our analyses support the first two determinants of bank representatives' resistance to the Exposure Draft. Specifically, accounting slack and lower demand for accounting transparency are strongly associated with resistance to the standard. However, we find that stated reasons for resistance are not associated with letter writing. Specifically, representatives at firms with difficult to value loans and firms that mostly hold loans to maturity are no more likely to resist the standard than others. The narrow scope of bank representatives' comments and our empirical findings suggest that bankers' responses to the Exposure Draft may be more driven by concerns over reduced availability of accounting slack and accompanying de facto regulatory forbearance than by the conceptual arguments they offer. Our results have implications for standard setters, who must navigate special interests as they attempt to promulgate high quality accounting standards, and for users of financial statements who must consider how political forces shape generally accepted accounting principles.
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Banking Deregulation, Consolidation, and Corporate Cash Holdings: U.S. Evidence
Bill Francis, Iftekhar Hasan & Haizhi Wang
Journal of Banking & Finance, April 2014, Pages 45-56
Abstract:
This paper tests the effects of banking deregulation on the cash policies of nonbanking firms in the United States. We document a significant and negative relation between intrastate banking deregulation and corporate cash holdings. We show that the negative relation is driven by financially constrained firms, especially by constrained firms with low hedging needs. Further, we construct indexes measuring the intensity of bank consolidation in local markets. We find that the intensity of in-market bank mergers is negatively related to corporate cash holdings. However, in-market bank mergers in highly concentrated markets tend to be positively related to corporate cash holdings.
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Changes in bank lending standards and the macroeconomy
William Bassett et al.
Journal of Monetary Economics, March 2014, Pages 23-40
Abstract:
Identifying macroeconomic effects of credit shocks is difficult because many of the same factors that influence the supply of loans also affect the demand for credit. Using bank-level responses to the Federal Reserve's Loan Officer Opinion Survey, we construct a new credit supply indicator: changes in lending standards, adjusted for the macroeconomic and bank-specific factors that also affect loan demand. Tightening shocks to this credit supply indicator lead to a substantial decline in output and the capacity of businesses and households to borrow from banks, as well as to a widening of credit spreads and an easing of monetary policy.
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Protecting Mortgage Borrowers through Risk Awareness: Evidence from Variations in State Laws
Michael Collins
Journal of Consumer Affairs, forthcoming
Abstract:
In the wake of historic levels of mortgage defaults, regulators have debated how to regulate certain high-risk loans because of the risks of foreclosure involved. This study examines state laws that required loan applicants to receive information about the risks of foreclosure before they could sign certain mortgage contracts. Skeptics suggest that disclosures are largely ignored by consumers, yet controlling for other factors this study shows that loan applicants in states with enhanced warnings about foreclosures were more likely to reject high-cost refinance mortgage loan offers from a lender. Enhanced disclosures with features such as risk warnings, signatures, and referrals to counseling are being implemented as part of Dodd-Frank consumer finance reforms. This study suggests these strategies may be useful to balance consumer protection and access to high-risk credit.
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Rodney Garratt, Lavan Mahadeva & Katsiaryna Svirydzenka
Journal of Banking & Finance, forthcoming
Abstract:
Systemic risk among the network of international banking groups arises when financial stress threatens to crisscross many national boundaries and expose imperfect international coordination. To assess this risk, we consider three decades of data on the cross-border interbank market. We use Rosvall and Bergstrom's (PNAS, 2008, 1118-1123) information theoretic map equation to partition banking groups from 21 countries into modules that reveal the contagious capacity of the network. We show that in the late 1980s four important financial centers formed one large super cluster that was highly contagious in terms of transmission of stress within its ranks, but less contagious on a global scale. But the expansion leading to the 2008 crisis left more transmitting hubs sharing the same total influence as a few large modules had previously. We show that this greater entanglement meant the network was more broadly contagious, and not that risk was more shared. Thus, our analysis contributes to our understanding as to why defaults in US sub-prime mortgages spread quickly through the global financial system.