TARP and Market Discipline: Evidence on the Moral Hazard Effects of Bank Recapitalizations

Jens Forssbæck, Caren Yinxia Nielsen

Research output: Working paperResearchpeer-review


We examine the moral hazard effects of bank recapitalizations by assessing the impact of the U.S. TARP program on market discipline exerted by subordinated debt-holders using a sample of 123 bank holding companies over the period 2004-2013. Predicted distress risk has a consistently positive and significant effect on sub-debt spreads, suggesting the presence of market discipline. A higher bailout probability significantly reduces the risk-sensitivity of spreads for the full sample, indicating a moral hazard effect of recapitalizations. This appears to be a too-big-to-fail effect, as it is absent when the largest banks are dropped from the sample. Results also indicate that it is transitory. We also find a large effect of the crisis, appearing both as a uniform rise in, and a heightened risk sensitivity of, sub-debt spreads during the crisis.
Original languageEnglish
PublisherSSRN: Social Science Research Network
Publication statusPublished - 2015


  • Bank bailouts
  • Moral hazard
  • Distress risk
  • Capital injections
  • TARP
  • CPP
  • Market discipline
  • Nancial crisis

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