Regulators and policymakers have asserted that the public was “blindsided” by the “perfect storm” that caused the 2007-2009 global financial crisis (GFC, e.g., Financial Crisis Inquiry Commission [FCIC] 2011; Appelbaum 2015). Academic research has similarly found that market participants, including bank CEOs, generally did not recognize the severity of the crisis or respond effectively (e.g., Fahlenbrach and Stulz 2011; Desai, Rajgopal, and Yu 2016). As the FCIC concluded, “[the] greatest tragedy would be to accept the refrain that no one could have seen [the GFC] coming…If we accept this notion, it will happen again” (2011). These concerns are particularly salient given recent concerns that banks appear to be increasingly engaging in questionable lending practices (e.g., Andriotis and Rudegeair 2018; Eisen 2019), and there are early warning signs that the next recession is not far off (e.g., Bloomberg 2018; McKenna 2018).
Against that backdrop, we examine a specific subset of bank executives and directors that may have been uniquely able to understand risks, recognize the warning signs early, and better respond to the GFC: those with bank leadership experience during the banking crises of the late 1980s and early 1990s. Specifically, controlling for bank, executive, and director-level characteristics, we examine the effects of this prior bank crisis experience on performance, risk, and accounting quality around the GFC.
We hypothesize that leadership experience in the 80s/90s banking crises facilitated learning that could help in the GFC, particularly because many of the conditions that precipitated the 80s/90s crises were also precipitating factors in the GFC (Aubuchon and Wheelock 2010; GAO 2013). Such learning is supported by the management literature, which suggests that individuals can effectively apply past knowledge to new settings (Argote and Ingram 2000). Alternatively, such prior experience could lend to overconfidence (see Sitkin and Pablo 1992), which has been shown to increase bank risk-taking in the GFC (Ho, Huang, Lin, and Yen 2016).
We find that banks led by executives and directors with past crisis experience had significantly higher ROA before and during the GFC, fewer failures during the GFC, lower risk-weighted assets in the GFC, less exposure to real estate loans both before and during the GFC, timelier loan loss provisions in the GFC, and more persistent earnings before and during the GFC. Furthermore, these differences are economically meaningful, and the effects are strongest among bank leaders for whom the 80s/90s crises were most individually salient. Results are robust to propensity-matched samples and other analyses performed to rule out alternative explanations.
In sum, our results suggest these individuals were able to learn from prior crisis experience. These results have implications for bank regulators and policymakers, because there have been growing calls for increasing the quality and oversight of banks (e.g., Adams 2012; Kirkpatrick 2009; Mehran, Morrison, and Shapiro 2012). Our results, at a minimum, suggest that banks seeking to lower risk and improve performance and accounting quality would likely benefit from having their executives and directors better understand the lessons of prior crises.
Adams, R. B. 2012. Governance and the financial crisis. International Review of Finance 12 (1): 7–38.
Andriotis, A., and P. Rudegeair. 2018. Lenders shunned risky personal loans. Now they’re competing for them. Wall Street Journal. 24 August. Available online at https://www.wsj.com/articles/lenders-shunned-risky-personal-loans-now-theyre-competing-for-them-1535103000, retrieved February 2019.
Appelbaum, B. 2015. Policy makers skeptical on preventing financial crisis. New York Times. 4 October. Available online at https://www.nytimes.com/2015/10/05/business/economy/policy-makers-skeptical-on-preventing-financial-crisis.html, retrieved December 2017.
Argote, L., and P. Ingram. 2000. Knowledge transfer: A basis for competitive advantage in firms. Organizational Behavior and Human Decision Processes 82 (1): 150–169.
Aubuchon, C. P., and D. C. Wheelock. 2010. The geographic distribution and characteristics of US bank failures, 2007-2010: Do bank failures still reflect local economic conditions? Federal Reserve Bank of St. Louis Review 92 (5): 395–415.
Bloomberg. 2018. J.P. Morgan has a date for the next financial crisis – and it’s not far off. Fortune. 13 September. Available online at http://fortune.com/2018/09/13/jpmorgan-next-financial-crisis/, retrieved February 2019.
Desai, H., S. Rajgopal., and J. J. Yu. 2015. Were information intermediaries sensitive to the financial statement-based leading indicators of bank distress prior to the financial crisis? Contemporary Accounting Research 33 (2): 576–606.
Eisen, B. 2019. No pay stub? No problem. Unconventional mortgages make a comeback. Wall Street Journal. 23 January. Available online at https://www.wsj.com/articles/no-pay-stub-no-problem-unconventional-mortgages-make-a-comeback-11548239400?mod=hp_lista_pos2, retrieved February 2019.
Fahlenbrach, R., and R. M. Stulz. 2011. Bank CEO incentives and the credit crisis. Journal of Financial Economics 99 (1): 11–26.
Financial Crisis Inquiry Commission (FCIC). 2011. The Financial Crisis Inquiry Report: Final Report of the National Commission on the Causes of the Financial and Economic Crisis in the United States. United States Congress. Washington, D.C. Available online at http://fcic-static.law.stanford.edu/cdn_media/fcic-reports/fcic_final_report_full.pdf, retrieved December 2017.
Government Accountability Office (GAO). 2013. Financial Regulatory Reform: Financial Crisis Losses and Potential Impacts of the Dodd-Frank Act. U.S. Government Accountability Office. Washington, D.C. Available online at https://www.gao.gov/assets/660/651322.pdf, retrieved December 2017.
Ho, P., C. Huang, C. Lin, and J. Yen. 2016. CEO overconfidence and financial crisis: Evidence from bank lending and leverage. Journal of Financial Economics 120 (1): 194–209.
Kirkpatrick, G. 2009. The corporate governance lessons from the financial crisis. Financial Market Trends 1: 61–87.
McKenna, F. 2018. Janet Yellen is worried about the next financial crisis. MarketWatch. 14 December. Available online at https://www.marketwatch.com/story/janet-yellen-is-worried-about-the-next-financial-crisis-2018-12-13, retrieved February 2019.
Mehran, H., A. Morrison, and J. Shapiro. 2012. Corporate governance and banks: What have we learned from the financial crisis? In: Dewatripont, M. and X. Freixas, (eds.) The Crisis Aftermath: New Regulatory Paradigms. Centre for Economic Policy Research: 11–44.
Sitkin, S. B., and A. L. Pablo. 1992. Reconceptualizing the determinants of risk behavior. Academy of Management Review 17 (1): 9–38.
This post comes to us from professors Anwer S. Ahmed at Texas A&M University, Brant E. Christensen at the University of Oklahoma, Adam J. Olson at the University of Cincinnati, and Christopher G. Yust at Texas A&M University. It is based on their recent article, “Déjà Vu: The Effect of Executives and Directors With Prior Banking Crisis Experience on Bank Outcomes Around the Global Financial Crisis,” which is forthcoming in Contemporary Accounting Research and available