Corporate Control, Portfolio Choice, and the Decline of Banking

52 Pages Posted: 29 Dec 2006 Last revised: 8 Feb 2021

See all articles by Gary B. Gorton

Gary B. Gorton

Yale School of Management; National Bureau of Economic Research (NBER); Yale University - Yale Program on Financial Stability

Richard J. Rosen

Federal Reserve Bank of Chicago - Economic Research

Multiple version iconThere are 2 versions of this paper

Date Written: December 1992

Abstract

In the last two decades U.S. banks have become systematically less profitable and riskier as nonbank competition has eroded the profitability of banks' traditional activities. Bank failures, insignificant from 1934, the date the Glass-Steagall Act was passed, until 1980, rose exponentially in the 1980s. The leading explanation for the persistence of these trends centers on fixed-rate deposit insurance: the insurance gives bank shareholders an incentive to take on risk when the value of bank charters falls. We propose and test an alternative explanation based on corporate control considerations. We show that managerial entrenchment, more than moral hazard associated with deposit insurance, explains the recent behavior of the banking industry.

Suggested Citation

Gorton, Gary B. and Rosen, Richard J., Corporate Control, Portfolio Choice, and the Decline of Banking (December 1992). NBER Working Paper No. w4247, Available at SSRN: https://ssrn.com/abstract=478702

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Yale University - Yale Program on Financial Stability

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Richard J. Rosen

Federal Reserve Bank of Chicago - Economic Research ( email )

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