N°17-58: Stressed Banks

We investigate the risk taking of "stressed banks" --- the large financial institutions that have been facing unprecedented regulatory supervision and capitalization requirements. We take steps towards identifying how supervision affects risk taking in the banking system. Supervision in Dodd-Frank Act distinctly improves borrower rating by 0.7 rating classes. Banks respond to supervision heterogeneously, depending on the capital charges associated with their investments. Ignoring the confounding effect of capital requirements misleads the conclusion that Dodd-Frank Act supervision is ineffective. Our results indicate that “stressed banks” are beneficial to financial stability as they are better capitalized and engage in safer lending.