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TARP and Market Discipline: Evidence on the Moral Hazard Effects of Bank Recapitalizations

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Author

Summary, in English

We examine the moral hazard effects of bank recapitalizations by assessing the impact of the U.S. TARP program on market discipline exerted by subordinated debt-holders using a sample of 123 bank holding companies over the period 2004-2013. Predicted distress risk has a consistently positive and significant effect on sub-debt spreads, suggesting the presence of market discipline. A higher bailout probability significantly reduces the risk-sensitivity of spreads for the full sample, indicating a moral hazard effect of recapitalizations. This appears to be a too-big-to-fail effect, as it is absent when the largest banks are dropped from the sample. Results indicate that it is transitory. We also find a large effect of the crisis, appearing both as a uniform rise in, and a heightened risk sensitivity of, sub-debt spreads during the crisis.

Publishing year

2016

Language

English

Publication/Series

Working Papers

Issue

2016:10

Document type

Working paper

Publisher

Department of Economics, Lund University

Topic

  • Economics and Business

Keywords

  • Bank bailouts
  • moral hazard
  • distress risk
  • capital injections
  • TARP
  • CPP
  • market discipline
  • financial crisis
  • E50
  • G01
  • G21
  • G28
  • H12

Status

Published