By Central Bank News
Banks that received public funds during the 2008 financial crises were involved in riskier lending than banks that did not need a government bailout, according to a working paper published by the Bank for International Settlements (BIS).
The paper, by economists Michael Brei and Blaise Gadanecz, examined the loan risk of 87 banks – 40 of which received public funds – and found that before the crisis, the rescued institutions had a significantly higher share of leveraged, and thus riskier, loans in their portfolios of syndicated loan signings than their non-rescued peers.
While the finding is hardly surprising, the authors found evidence that those banks that were rescued took on the risk mainly in their home markets, “possibly reflecting their expectation that rescues are more likely to occur at home, where they may count as more systemic or wield more market power than abroad,” the paper said.
The authors also tried to ascertain whether the public rescue operations, such as the 2008 Troubled Asset Relief Program (TARP) in the US, made the rescued banks shy away from risky lending toward safer loans.
“Although risk started diminishing across the board in 2009, we fail to find significant consistent evidence that with the onset of the crisis in 2008, rescued banks have reduced their risk relatively more than non rescued banks,” the paper said.
The authors said their findings were consistent with current literature that says rescued banks take on higher risks because they expect to be rescued, a concept often referred to as moral hazard.
“Rescued banks may either be erring in risk management or consciously taking advantage of the implicit bailout guarantee,” the paper said.
Click to read the paper: “Public recapitalisations and bank risk: evidence from loan spreads and leverage.”