Working Paper

Assessing Regulatory Responses to Banking Crises

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.

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;

JEL Classification: C11; C38; G21; G33; G38;

https://doi.org/10.18651/RWP2022-04

Bibliographic Information

Provider: Federal Reserve Bank of Kansas City

Part of Series: Research Working Paper

Publication Date: 2022-05-10

Number: RWP 22-04