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The role of commercial real estate investments in the banking crisis of 1985-92

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  • Cole, Rebel A.
  • Fenn, George W.

Abstract

This article examines the role of commercial real estate investments in the banking crisis of 1985-92, an unprecedented period during which more than 1,300 banks failed. Bank failures are fundamentally important because of the unique role played by financial institutions in the provision of business credit. We discover three striking features of banks failing during this period. First, commercial real estate was only a factor in the bank failures of 1988-92. Second, construction loans played a much larger role in bank failures than permanent loans, and the relationship is strongest with construction loans booked during 1983-1985. Third, other ex ante risk measures are systematically related to banking failure throughout the sample period. These results suggest that risk-seeking banks brought about their own demise and commercial real estate, especially construction lending, was one of the vehicles.

Suggested Citation

  • Cole, Rebel A. & Fenn, George W., 1996. "The role of commercial real estate investments in the banking crisis of 1985-92," MPRA Paper 24692, University Library of Munich, Germany, revised 01 Nov 2008.
    • Handle: RePEc:pra:mprapa:24692
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    References listed on IDEAS

    as
    1. Cole, Rebel A. & Gunther, Jeffery W., 1995. "Separating the likelihood and timing of bank failure," Journal of Banking & Finance, Elsevier, vol. 19(6), pages 1073-1089, September.
    2. Rebel A. Cole & Robert A. Eisenbeis, 1996. "The Role of Principal‐Agent Conflicts in the 1980s Thrift Crisis," Real Estate Economics, American Real Estate and Urban Economics Association, vol. 24(2), pages 195-218.
    3. Joe Peek & Eric S. Rosengren, 1994. "Bank Real Estate Lending and the New England Capital Crunch," Real Estate Economics, American Real Estate and Urban Economics Association, vol. 22(1), pages 33-58, March.
    4. Diana Hancock & James A. Wilcox, 1994. "Bank Capital and the Credit Crunch: The Roles of Risk‐Weighted and Unweighted Capital Regulations," Real Estate Economics, American Real Estate and Urban Economics Association, vol. 22(1), pages 59-94, March.
    5. Douglas W. Diamond, 1984. "Financial Intermediation and Delegated Monitoring," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 51(3), pages 393-414.
    6. Richard E. Randall, 1993. "Lessons from New England bank failures," New England Economic Review, Federal Reserve Bank of Boston, issue May, pages 13-35.
    7. Stiglitz, Joseph E & Weiss, Andrew, 1981. "Credit Rationing in Markets with Imperfect Information," American Economic Review, American Economic Association, vol. 71(3), pages 393-410, June.
    8. Donald Hester, 1992. "Financial institutions and the collapse of real estate markets," Conference Series ; [Proceedings], Federal Reserve Bank of Boston, vol. 36, pages 114-150.
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    Cited by:

    1. Kanagaretnam, Kiridaran & Zhang, Gaiyan & Zhang, Sanjian Bill, 2016. "CDS pricing and accounting disclosures: Evidence from U.S. bank holding corporations around the recent financial crisis," Journal of Financial Stability, Elsevier, vol. 22(C), pages 33-44.
    2. Ly, Kim Cuong & Liu, Hong & Opong, Kwaku, 2017. "Who acquires whom among stand-alone commercial banks and bank holding company affiliates?," International Review of Financial Analysis, Elsevier, vol. 54(C), pages 144-158.
    3. Antoniades, Adonis, 2015. "Commercial bank failures during the Great Recession: the real (estate) story," Working Paper Series 1779, European Central Bank.
    4. Min Hwang, 2014. "Financing real estate development: a case study of the US real estate market in the 2000s," Chapters, in: Susan Wachter & Man Cho & Moon Joong Tcha (ed.), The Global Financial Crisis and Housing, chapter 7, pages 149-179, Edward Elgar Publishing.
    5. William F. Bassett & W. Blake Marsh, 2014. "Assessing Targeted Macroprudential Financial Regulation: The Case of the 2006 Commercial Real Estate Guidance for Banks," Finance and Economics Discussion Series 2014-49, Board of Governors of the Federal Reserve System (U.S.).
    6. Rebel Cole & Lawrence White, 2012. "Déjà Vu All Over Again: The Causes of U.S. Commercial Bank Failures This Time Around," Journal of Financial Services Research, Springer;Western Finance Association, vol. 42(1), pages 5-29, October.
    7. Balla, Eliana & Mazur, Laurel C. & Prescott, Edward Simpson & Walter, John R., 2019. "A comparison of community bank failures and FDIC losses in the 1986–92 and 2007–13 banking crises," Journal of Banking & Finance, Elsevier, vol. 106(C), pages 1-15.
    8. Bassett, William F. & Marsh, W. Blake, 2017. "Assessing targeted macroprudential financial regulation: The case of the 2006 commercial real estate guidance for banks," Journal of Financial Stability, Elsevier, vol. 30(C), pages 209-228.
    9. Eliana Balla & Edward Simpson Prescott & John R. Walter, 2015. "Did the Financial Reforms of the Early 1990s Fail? A Comparison of Bank Failures and FDIC Losses in the 1986-92 and 2007-13 Periods," Working Paper 15-5, Federal Reserve Bank of Richmond.

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    More about this item

    Keywords

    bank; bank failure; commercial bank; commercial real estate; construction lending; real estate;
    All these keywords.

    JEL classification:

    • G18 - Financial Economics - - General Financial Markets - - - Government Policy and Regulation
    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill
    • G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation
    • G33 - Financial Economics - - Corporate Finance and Governance - - - Bankruptcy; Liquidation
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages

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