When Good Investments Go Bad: The Contraction in Community Bank Lending after the 2008 Gse Takeover

45 Pages Posted: 2 Jun 2017

See all articles by Tara Rice

Tara Rice

Bank for International Settlements (BIS)

Jonathan Rose

Federal Reserve Bank of Chicago

Date Written: 2012

Abstract

In September 2008, the government-sponsored enterprises (GSEs) Fannie Mae and Freddie Mac were placed into conservatorship and dividend payments on common and preferred shares were suspended. As a result, share prices fell to nearly zero and many banks across the country lost the value of their investments in the preferred shares. We estimate more than 600 depository institutions in the United States were exposed to at least $8 billion in investment losses from these securities. In addition, fifteen failures and two distressed mergers either directly or indirectly resulted from the takeover. Since these GSE investments were considered to be safe investments by banks, regulators, and rating agencies, we consider these losses to be exogenous shocks to bank capital, and use this event to examine the relationship between community bank condition and lending during this crisis. We find that in the quarter following the takeover of Fannie Mae and Freddie Mac, the measured Tier 1 capital ratio at exposed banks fell about three percent on average, and loan growth at exposed banks with median capitalization was about 2 percentage points lower compared to other banks in the following quarter. Consequently, considering the set of community banks that incurred about $2 billion in GSE-related losses, and assuming that each bank reduced loan growth by 2 percentage points, the estimated aggregate lending drop among these banks would be roughly $4 billion. .

Suggested Citation

Rice, Tara and Rose, Jonathan, When Good Investments Go Bad: The Contraction in Community Bank Lending after the 2008 Gse Takeover (2012). FRB International Finance Discussion Paper No. 1045, Available at SSRN: https://ssrn.com/abstract=2976738

Tara Rice (Contact Author)

Bank for International Settlements (BIS) ( email )

Centralbahnplatz 2
Basel, Basel-Stadt 4002
Switzerland

Jonathan Rose

Federal Reserve Bank of Chicago ( email )

230 South LaSalle Street
Chicago, IL 60604
United States

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