Corporate Control, Portfolio Choice, and the Decline of Banking

JOURNAL OF FINANCE, Vol 50 No 5, December 1995

Posted: 22 Jul 1998

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

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Abstract

In the 1980s, U.S. banks became systematically less profitable and riskier as nonbank competition 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 equityholders 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 played a more important role than did the moral hazard associated with deposit insurance in explaining the recent behavior of the banking industry.

JEL Classification: G21

Suggested Citation

Gorton, Gary B. and Rosen, Richard J., Corporate Control, Portfolio Choice, and the Decline of Banking. JOURNAL OF FINANCE, Vol 50 No 5, December 1995, Available at SSRN: https://ssrn.com/abstract=6895

Gary B. Gorton

Yale School of Management ( email )

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HOME PAGE: http://mba.yale.edu/faculty/profiles/gorton.shtml

National Bureau of Economic Research (NBER)

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Yale University - Yale Program on Financial Stability

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New Haven, CT 06520-8200
United States

Richard J. Rosen (Contact Author)

Federal Reserve Bank of Chicago - Economic Research ( email )

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Chicago, IL 60604
United States
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312-294-6262 (Fax)

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