The Effect of TARP on The Effect of TARP on Bank Risk- -Taking - - PowerPoint PPT Presentation

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The Effect of TARP on The Effect of TARP on Bank Risk- -Taking - - PowerPoint PPT Presentation

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The Effect of TARP on The Effect of TARP on Bank Risk- -Taking Taking Bank Risk Lamont Black and Lieu Hazelwood Federal Reserve Board of Governors FDIC/JFSR 11 th Annual Bank Research Conference September 2011 The views expressed do not

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SLIDE 1

The Effect of TARP on The Effect of TARP on Bank Risk Bank Risk-

  • Taking

Taking

Lamont Black and Lieu Hazelwood Federal Reserve Board of Governors FDIC/JFSR 11th Annual Bank Research Conference September 2011

The views expressed do not necessarily reflect those of the Federal Reserve Board or its staff.

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SLIDE 2

Introduction Introduction

 The Troubled Asset Relief Program (TARP) of the

U.S. Treasury was authorized to make $700 Billion in bank capital injections, which began in October 2008

 Purpose of program was originally stated as

recapitalization, but banks were also under pressure to increase lending

“As these banks and institutions are reinforced and supported with taxpayer funds, they must meet their responsibility to lend.”

Anthony Ryan, Acting Treasury Under Secretary October 2008

2 FDIC/JFSR Bank Research Conference 2011

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Motivation Motivation

 These two social objectives likely had opposing

effects on bank risk-taking

  • Recapitalization would lead to less risk-taking
  • Macro-stabilization would lead to more risk-taking

 Greater risk taking with government funds in

the absence of greater lending may also be a sign of moral hazard

3 FDIC/JFSR Bank Research Conference 2011

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SLIDE 4

Main Question Main Question

 How did the TARP capital infusions affect bank

risk-taking?

 Specifically, how did the risk ratings of

commercial and industrial (C&I) loan

  • riginations change following the capital

infusions?

 How did this compare to changes in lending?

4 FDIC/JFSR Bank Research Conference 2011

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SLIDE 5

Main Findings Main Findings

 Relative to non-TARP banks, the risk

rating of loan originations

  • increased at large TARP banks
  • decreased at small TARP banks

 Suggests that large may have had

  • greater pressure to expand lending, or
  • greater moral hazard

5 FDIC/JFSR Bank Research Conference 2011

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SLIDE 6

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C&I Loans Outstanding C&I Loans Outstanding

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Data Data

 Survey of Terms of Business Lending

(STBL)

  • Survey of one week each quarter
  • Risk rating: 1 is least risky, 5 is most risky

 Call Report: bank size and capitalization

37 TARP banks and 44 Non-TARP banks

 12 Quarters: 2007Q4 − 2010Q3  187,761 loan-level observations

7 FDIC/JFSR Bank Research Conference 2011

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Measuring Risk Measuring Risk-

  • Taking

Taking

 Forward-looking measure of risk-taking

  • Versus backward-looking measure, such as

non-performing loan ratio, e.g., Salas and Saurina (2003)

FDIC/JFSR Bank Research Conference 2011 8

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Key Comparison Key Comparison

 Change in average risk ratings for TARP

banks relative to non-TARP banks following the period of capital infusions

 Match TARP and non-TARP banks based on

size and timing of capital infusion

 Stratify banks by bank size

  • Large (>$10 Billion)
  • Medium ($2.5 Billion to $10 Billion)
  • Small (<$2.5 Billion)

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SLIDE 10

Difference Difference-

  • in

in-

  • differences

differences

10 FDIC/JFSR Bank Research Conference 2011

Mean After TARP Period Loan Characteristics Risk Rating (1 to 5) 3.462 Interest 3.876 Commitment (0/1) 0.942 Log of Loan Size ($) 11.194 Bank Characteristics Ln of Bank Size ($1000) 18.728 Capitalization (ratio) 9.524 After − Before Loan Characteristics Risk Rating 0.094*** Interest

  • 1.850***

Commitment 0.010*** Ln(Loan Size) 0.033** Bank Characteristics Ln(Bank Size) 0.321*** Capitalization

  • 0.002***

TARP − Non-TARP Mean 0.232*** TARP Recipient 0.090*** 0.166*** 0.104*** 1.185***

  • 2.340***

0.008*** 0.075*** 0.164*** 0.022*** 0.062*** 0.037***

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Relative Risk at Large Banks Relative Risk at Large Banks

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SLIDE 12

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Relative Risk at Small Banks Relative Risk at Small Banks

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Loan Loan-

  • Level Analysis

Level Analysis

 Evaluate change in risk ratings following

TARP while controlling for other bank and loan characteristics

Riski,t,l = 1TARP recipienti + 2Ln(Bank Size)i,t,l + 3Capitalizationi,t,l + 4Commitmenti,t,l + 5Maturityi,t,l + 6Ln(Loan Size)i,t,l + 1banki + 2quartert + I,t,l

13 FDIC/JFSR Bank Research Conference 2011

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Risk Ratings for Large Banks Risk Ratings for Large Banks

FDIC/JFSR Bank Research Conference 2011 14

(1) (2) Bank Characteristics TARP Recipient 0.086*** 0.079*** Ln(Bank Size) 0.046*** 0.049*** Capitalization 0.008*** 0.006*** Loan Characteristics Commitment 0.233*** Ln(Loan Size)

  • 0.024***

Bank Fixed Effects Y Y Time Fixed Effects Y Y Number of Observations 212636 212636 Adjusted R-Squared 0.200 0.211 Large Banks

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Risk Ratings for Small Banks Risk Ratings for Small Banks

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(1) (2) Bank Characteristics TARP Recipient

  • 0.060*
  • 0.087***

Ln(Bank Size)

  • 0.087
  • 0.058

Capitalization

  • 0.001
  • 0.004

Loan Characteristics Commitment 0.020 Ln(Loan Size)

  • 0.007

Bank Fixed Effects Y Y Time Fixed Effects Y Y Number of Observations 11867 11867 Adjusted R-Squared 0.315 0.330 Small Banks

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Interest Spread at Large Banks Interest Spread at Large Banks

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Interest Spread at Small Banks Interest Spread at Small Banks

FDIC/JFSR Bank Research Conference 2011 17

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Risk Ratings with Ordered Logit Risk Ratings with Ordered Logit

FDIC/JFSR Bank Research Conference 2011 18

(1) (2) Bank Characteristics TARP Recipient 1.329*** 0.307*** Ln(Bank Size) 1.035*** 2.836*** Capitalization 1.000 0.920*** Loan Characteristics Commitment 1.084* Ln(Loan Size) 0.984 Time Fixed Effects Y Y Number of Observations 212636 11867 Adjusted R-Squared 0.031 0.031 Large Banks 2.995*** 0.930*** Small Banks

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Risk Ratings with Dollar Amount Risk Ratings with Dollar Amount

FDIC/JFSR Bank Research Conference 2011 19

(1) (2) Bank Characteristics

Ln(TARP dollar amount) 0.004***

  • 0.003*

Ln(Bank Size) 0.049***

  • 0.088

Capitalization 0.006***

  • 0.003

Loan Characteristics Commitment 0.021 Ln(Loan Size)

  • 0.007

Bank Fixed Effects Y Y Time Fixed Effects Y Y Number of Observations 212636 11867 Adjusted R-Squared 0.212 0.330 Small Banks Large Banks 0.233***

  • 0.024***
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Lending and Risk Lending and Risk-

  • Taking

Taking

 Did the risk correspond to more lending?

  • Macro-stabilization

 Or just riskier loans?

  • Moral hazard

20 FDIC/JFSR Bank Research Conference 2011

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FDIC/JFSR Bank Research Conference 2011 21

C&I Loans at Large Banks C&I Loans at Large Banks

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FDIC/JFSR Bank Research Conference 2011 22

C&I Loans at Small Banks C&I Loans at Small Banks

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Matched Sample Analysis Matched Sample Analysis

 Propensity score matching used to

control for selection bias

 Results consistent with previous

regression results

 Reduced significance for small banks,

likely due to reduced sample size

FDIC/JFSR Bank Research Conference 2011 23

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Conclusion Conclusion

 Relative to non-TARP banks, we find that

loan risk increased at large TARP banks but decreased at small TARP banks

 Conflicting objectives of recapitalization

and macro-stabilization may have mixed effects on bank risk-taking

 Lack of lending suggests moral hazard for

the large banks

24 FDIC/JFSR Bank Research Conference 2011