Enforcement Actions, Market Movement and Depositors’ Reaction: Evidence from the US Banking System

Abstract

We examine market movement and depositors’ reaction following the announcement of enforcement actions (EAs) on US banks over the period 2004 to 2015. Using an extensive dataset of manually collected EAs, employing event study and multivariate analyses, we investigate the impact of EAs on key bank stakeholders, i.e. shareholders and depositors. Our findings suggest that equity market and depositors are able to discriminate EAs based on their severity. Market reacts negatively following severe EAs (cease and desist) while weak reaction is noted for other EA types (civil money penalty and formal agreements). Demand depositors exhibit some level of depositor disciplining mechanism following cease and desist announcements, while core depositors seem to reward sanctioned banks for a higher return. A positive effect is found following formal agreement announcements that seem to be perceived as a corrective mechanism. We validate these findings across the sanctioned (treatment) and comparable non-sanctioned (control) banks, using propensity score matching methodology. These findings have important policy implications and expand the existing knowledge on the consequences of banking supervision to guide banks’ behaviour, drive policy interventions and contribute to enhance supervisory effectiveness.