Market Discipline by Depositors: Evidence from Reduced-Form Equations

Abstract

This paper examines the effects of bank risk, estimated as the probability of failure based on actual failure records, on the interest rate and the growth of large time deposits between 1985 and 1992. During the period, riskier banks paid higher interest rates but experienced slower growth of large time deposits. These results indicate that risky banks faced unfavorable supply schedules of large time deposits and, hence, support the presence of market discipline by large time depositors. The empirical analysis also considers the effect of bank size, but fails to find evidence that depositors preferred large banks.

JEL Classification: G21