Political Capital and Moral Hazard
35 Pages Posted: 18 Nov 2009 Last revised: 18 Mar 2010
Date Written: October 1, 2009
Abstract
I investigate the role of moral hazard from government intervention on the risk-taking behavior of U.S. financial institutions prior to the 2008 financial crisis. I use cross-sectional variation in political connections to measure the effect of moral hazard. The central finding is a higher exposure to Level-3 (toxic) assets and lower stock returns during the crisis at firms with politically-connected directors and prior lobbying connections. One extra politically-connected director on a 10-member board corresponds to twenty percentage points in the proportion of firm market value in toxic assets and an extra drop of six percentage points in 2008 stock returns. In order to address endogeneity concerns, I also look at an additional exogenous source of variation in political connections: whether the firm is based in a state represented on the Senate Banking Committee. I find that representation on the committee increases firm risk, even after controlling for firm characteristics through firm fixed effects. The paper focuses attention on the perverse incentives for risk-taking in the financial sector created by government bailouts.
Keywords: moral hazard, financial crisis
JEL Classification: G01
Suggested Citation: Suggested Citation
Do you have negative results from your research you’d like to share?
Recommended Papers
-
Bank Governance, Regulation, and Risk Taking
By Luc Laeven and Ross Levine
-
Bank Governance, Regulation, and Risk Taking
By Luc Laeven and Ross Levine
-
Bank CEO Incentives and the Credit Crisis
By Rüdiger Fahlenbrach and René M. Stulz
-
Bank CEO Incentives and the Credit Crisis
By Rüdiger Fahlenbrach and René M. Stulz
-
By Andrea Beltratti and René M. Stulz
-
By Andrea Beltratti and René M. Stulz
-
The Credit Crisis Around the Globe: Why Did Some Banks Perform Better?
By Andrea Beltratti and René M. Stulz
-
Corporate Governance Lessons from the Financial Crisis
By Hector J. Lehuede, Grant Kirkpatrick, ...
-
The Wages of Failure: Executive Compensation at Bear Stearns and Lehman 2000-2008
By Lucian A. Bebchuk, Alma Cohen, ...
-
The 2007 Meltdown in Structured Securitization: Searching for Lessons not Scapegoats
By Gerard Caprio, Asli Demirgüç-kunt, ...