Why Don’t All Banks Practice Regulatory Arbitrage? Evidence from Usage of Trust Preferred Securities
Charles A. Dice Center Working Paper No. 2014-01
59 Pages Posted: 13 Mar 2014 Last revised: 24 Dec 2015
Date Written: December 14, 2015
We investigate why only some banks use regulatory arbitrage. We predict that banks wanting to be riskier than allowed by capital regulations (constrained banks) use regulatory arbitrage while others do not. We find support for this hypothesis using trust preferred securities (TPS) issuance, a form of regulatory arbitrage available to almost all U.S. banks from 1996 to Dodd-Frank. We also find support for predictions that constrained banks are riskier, perform worse during the crisis, and use multiple forms of regulatory arbitrage. We show that neither too-big-to-fail incentives nor misaligned managerial incentives are first-order determinants of this type of regulatory arbitrage.
Keywords: Regulatory arbitrage; bank capital requirements; quality of bank capital
JEL Classification: G01, G21, G28
Suggested Citation: Suggested Citation