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The Politics of Bank Failures: Evidence from Emerging Markets

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This paper studies large private banks in 21 major emerging markets in the 1990s. It first demonstrates that bank failures are very common in these countries: about 25 percent of these banks failed during the seven-year sample period. The paper also shows that political concerns play a significant role in delaying government interventions to failing banks. Failing banks are much less likely to be taken over by the government or to lose their licenses before elections than after. This result is robust to controlling for macroeconomic and bank-specific factors, a new party in power, early elections, outstanding loans from the IMF, as well as country-specific, time-independent factors. This finding implies that much of the within-country clustering in emerging market bank failures is directly due to political concerns.
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... For instance, the likelihood that a bank is recapitalized increases by about 30% when the sovereign's revenues-to-GDP ratio increases by 1 percentage point (p.p.). The result is robust across different measures of fiscal capacity and holds after controlling for an array of bank-level, banking sector-level, and macro-level variables, as well as political control variables, such as CAMEL type bank-level controls, too-many-to-fail effects (Acharya & Yorulmazer, 2007;Brown & Dinç, 2011), election cycles (Brown & Dinc, 2005), and other factors. ...
... why governments do not intervene in the banking sector, even though it would be optimal from a general welfare perspective. Governments postpone the resolution of distressed banks if there are many weak banks in the banking sector (Acharya & Yorulmazer, 2007: Acharya & Yorulmazer, 2008Kroszner & Strahan, 1996;Hoshi & Kashyap, 2010;Brown & Dinç, 2011) or for political economy reasons, such as timing in electoral cycles (Brown & Dinc, 2005;Imai, 2009;Bian et al., 2017). Our paper highlights empirically -as posited by some of this literature -that fiscal capacity is an additional driver behind (regulatory) forbearance. ...
... We study determinants of government interventions in the 2007 to 2009 period, using an exponential hazard model similar to Brown and Dinc (2005). 18 The hazard rate h AID,i (t), AID ∈ {Recap, Any}, is the instantaneous probability that bank i receives government support AID at time t, conditional on not having obtained AID prior to t. h Recap is the hazard rate for being recapitalized, and h Any denotes the hazard rate for obtaining any type of intervention. ...
... By engaging in forbearance, regulators can hope the situation will improve to escape culpability (Kane 1989;Mishkin 2000). Regulators also face pressure from politicians, who influence their careers and prefer that the banking sector appears strong (Kane 1989;Mishkin 2000;Brown and Dinç 2005). Finally, regulatory capture or career concerns may drive forbearance. ...
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