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Assessing Regulatory Responses to Banking Crises

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Abstract

During banking crises, regulators must decide between bailouts or liquidations, neither of which are publicly popular. However, making a comprehensive assessment of regulators requires examining all their decisions against their dual objectives of preserving financial stability and discouraging moral hazard. I develop a Bayesian latent class model to assess regulators on these competing objectives and evaluate banking and savings and loan (S&L) regulators during the 1980s crises. I find that the banking authority (FDIC) conformed to these objectives whereas the S&L regulator (FSLIC), which subsequently became insolvent, deviated from them. Timely interventions based on this evaluation could have redressed the FSLIC’s decision structure and prevented losses to taxpayers.

Suggested Citation

  • Padma Sharma, 2022. "Assessing Regulatory Responses to Banking Crises," Research Working Paper RWP 22-04, Federal Reserve Bank of Kansas City.
    • Handle: RePEc:fip:fedkrw:94189
    DOI: 10.18651/RWP2022-04
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    More about this item

    Keywords

    Bank failures; Bank resolution; Bailout; Liquidation; Savings and loans crisis; Markov Chain Monte Carlo (MCMC); Federal Deposit Insurance Corporation; Federal Savings and Loans Insurance Corporation (FSLIC); Bayesian inference; Discrete data analysis; Latent class models;
    All these keywords.

    JEL classification:

    • C11 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Bayesian Analysis: General
    • C38 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - Classification Methdos; Cluster Analysis; Principal Components; Factor Analysis
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • G33 - Financial Economics - - Corporate Finance and Governance - - - Bankruptcy; Liquidation
    • G38 - Financial Economics - - Corporate Finance and Governance - - - Government Policy and Regulation

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