The U.S. bank stress tests aim to improve financial system stability. However, they may also affect bank credit supply. We formulate and test opposing hypotheses about these effects. Our findings are consistent with the Risk Management Hypothesis, under which stress-tested banks reduce credit supply−particularly to relatively risky borrowers−to decrease their credit risk. The findings do not support the Moral Hazard Hypothesis, in which these banks expand credit supply−particularly to relatively risky borrowers that pay high spreads−increasing their risk. Results are generally stronger for safer banks, banks that passed the stress tests, and the earlier stress tests.

Does an increase in competition increase or decrease bank stability? I use a novel way to capture changes in banking competition by exploring how the exogenous state-specific process of banking deregulation gradually lowered entry barriers into urban banking markets. I find that the increase in market contestability significantly improves bank stability. This result is robust to the inclusion of additional fixed effects and other influences, such as mergers and acquisitions, or geographic expansion. Moreover, I find that greater competition reduces banks’ failure probability, share of non-performing loans and increases profitability. These findings suggest that competition increases stability, as it improves bank profitability and asset quality.

We study the effect of changes to bank-specific capital requirements on mortgage loans with a new loan-level dataset containing all new mortgages issued in the UK between 2005Q2 and 2007Q2. We find that a rise of a 100 basis points in capital requirements leads to a 4% decline in individual mortgage loan size. Borrowers with an impaired credit history (verified income) are not (most) affected. This is consistent with the origination of riskier loans to grow capital by raising retained earnings. We then examine the interaction of capital requirements and monetary policy. This suggests that a monetary policy tightening may mitigate the loan contraction associated with higher capital requirements, as maturity transformation allows the affected bank to profit from a steeper yield curve and raise capital through retained earnings. Overall, our findings in this paper indicate that retained earnings are an important channel of adjustment to capital requirements

Retail banking is a complex industry in which depository institutions bundle various services and may have market power. We use a recent regulation as a natural experiment to provide broad evidence about competition and the importance of bundling in retail banking. That regulation, which resulted from the Durbin Amendment to the Dodd–Frank Act, capped debit card interchange fees for banks with over 10 billion in assets. Using a difference-in-differences identification strategy, we document and quantify the resulting decline in interchange income for treated banks. We further find that treated banks offset more than 90% of the lost interchange income through increases in deposit fees for account holders. We argue that the ability to adjust deposit fees indicates (i) that treated banks have market power with respect to their account holders and (ii) strong complementarity between debit card transactions and deposit accounts. These results are robust when limiting the sample to banks near the asset threshold or using control banks with low direct competition with treated banks. Treated banks neither reduced costs nor strategically avoided the 10 billion threshold.

This paper sheds new light on the role bank executives played in the financial crisis. It examines whether they foresaw the poor performance of their own bank by analyzing their insider trading patterns. Insider trading during 2006 predicts stock returns during the crisis: a portfolio strategy based on insider trading information earns a risk-adjusted return of over 40% during the crisis. Further, banks with a high exposure to the housing market and banks with a low exposure exhibit different insider trading patterns starting in mid-2006, when US housing prices first decline: insiders of high-exposure banks are 20% more likely to sell stock than insiders of low-exposure banks. This pattern is more pronounced for CEOs than other insiders. However, insider trading patterns of high- and low-exposure banks do not differ before 2006. Replacing high-exposure banks by too-big-too-fail banks yields similar results. This evidence indicates that insiders of high-exposure and too-big-too-fail banks revised their assessment of their banks’ investments following the reversal in the housing market

Investment spending by US public firms is highly concentrated. The 100 largest spenders account for 60% of total capital expenditures and drive most of the variation in aggregate investment. This high concentration creates a disconnect between the average public firm and macroeconomic aggregates. For large firms, cash flow remains the primary driver of investment spending and has not declined in importance as it has for smaller public firms. The cash flowing to big spenders provides a better forecast of future investment opportunities than noisy proxies for Tobin's q even though these firms are not financially constrained. These results suggest that, at least for the largest spenders, it is unlikely that measurement error drives the significance of cash flow. Our results are also inconsistent with recent models that predict higher investment-cash flow sensitivity for small young growth firms and suggest that cash flow is still the most important determinant of macroeconomic fluctuations in investment spending.

We present a novel way to examine macro-financial linkages by focusing on the real effects of bank supervisors’ enforcement actions. Exploiting plausibly exogenous variation in supervisory monitoring intensity, we show that enforcement actions in single-market banks trigger temporarily large adverse effects for the macroeconomy by reducing personal income growth, the number of establishments, and increasing unemployment. These effects are related to contractions in bank lending and liquidity creation, and are more pronounced when we consider enforcement actions on both single-market and multi-market banks, and in counties with fewer banks and greater external financial dependence.

We investigate the U.S. experience with macroprudential policies by studying the interagency guidance on leveraged lending. We find that the guidance primarily impacted large, closely supervised banks, but only after supervisors issued important clarifications. It also triggered a migration of leveraged lending to nonbanks. While we do not find that nonbanks use more lax lending policies than banks, we unveil important evidence that nonbanks increased bank borrowing following the guidance, possibly to finance their growing leveraged lending. The guidance was effective at reducing banks’ leveraged lending activity, but it is less clear whether it accomplished its broader goal of reducing the risk that these loans pose for the stability of the financial system. Our findings highlight the importance of supervisory monitoring for macroprudential policy goals, and the challenge that the revolving door of risk poses to the effectiveness of macroprudential regulations.

While simpler than risk-based capital requirements, the leverage ratio may encourage bank risk-taking. This paper examines the activity of broker-dealers affiliated with bank holding companies (BHCs) and broker-dealers not affiliated with BHCs in the repurchase agreement (repo) market to test whether this may be occurring. Using data on the triparty repo market, the paper arrives at three findings. First, following the 2012 introduction of the supplementary leverage ratio (SLR), broker-dealer affiliates of BHCs decreased their repo borrowing but increased their use of repo backed by more price-volatile collateral. Second, the paper finds that regardless of whether a U.S. BHC-affiliated broker-dealer parent is above or below the SLR requirement, the announcement of the SLR rule has disincentivized those dealers affiliated with BHCs from borrowing in triparty repo. Finally, the paper finds an increase in the number of active nonbank-affiliated dealers in certain asset classes of triparty repo since the 2012 introduction of the supplementary leverage ratio. This illustrates how regulation can have competitive effects on the financial sector and may result in activities shifting among financial firms

The Credit Card Accountability and Disclosure Act (CARD Act) of 2009 restricted several risk management practices of credit card issuers. Using a quasi-experimental design with credit bureau data on consumer lending, we find evidence consistent with the hypothesis that the act's restrictions on risk management practices contributed to a large decline in bank card holding by higher risk, nonprime consumers but had little effect on prime consumers. Looking at consumer finance loans, historically a source of credit for higher risk consumers, we find greater reliance on such loans by nonprime consumers in states with high consumer finance rate ceilings following the CARD Act than by nonprime consumers in states with low rate ceilings or by prime consumers. That nonprime consumers in states with high consumer finance rate ceilings relied more heavily on consumer finance loans suggests that consumer finance loans were a substitute for subprime credit cards for risky consumers when rate ceilings permit such loans to be profitable. Consumer finance loans would not be available to many higher risk, nonprime consumers in low rate states because such loans would be unprofitable, and prime consumers would not need consumer finance loans because other less expensive types of credit would generally be available to them.