Deposit Competition and Financial Fragility: Evidence  from the U.S. Banking Sector

Mark  Egan; Ali  Hortaçsu; Gregor  Matvos

Article | American Economic Review

Deposit Competition and Financial Fragility: Evidence from the U.S. Banking Sector

by Mark Egan, Ali Hortaçsu and Gregor Matvos

Abstract

We develop a structural empirical model of the US banking sector. Insured depositors and run-prone uninsured depositors choose between differentiated banks. Banks compete for deposits and endogenously default. The estimated demand for uninsured deposits declines with banks' financial distress, which is not the case for insured deposits. We calibrate the supply side of the model. The calibrated model possesses multiple equilibria with bank-run features, suggesting that banks can be very fragile. We use our model to analyze proposed bank regulations. For example, our results suggest that a capital requirement below 18 percent can lead to significant instability in the banking system.

Keywords: Banks and Banking; Financial Condition; United States;

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Egan, Mark, Ali Hortaçsu, and Gregor Matvos. "Deposit Competition and Financial Fragility: Evidence from the U.S. Banking Sector." American Economic Review 107, no. 1 (January 2017): 169–216.

Brokers continue to play a critical role in intermediating institutional stock market transactions. More than half of all institutional investor order flow is still executed by high-touch (non-electronic) brokers. Despite the continued importance of brokers, we have limited information on what drives investors' choices among them. We develop and estimate an empirical model of broker choice that allows us to quantitatively examine each investors' responsiveness to execution costs and access to research and order flow information. Studying over 300 million institutional trades, we find that investor demand is relatively inelastic with respect to commissions and that investors are willing to pay a premium for access to top research analysts and order-flow information. There is substantial heterogeneity across investors. Relative to other investors, hedge funds tend to be more price insensitive, place less value on sell-side research, and place more value on order-flow information. Furthermore, using trader-level data, we find that investors are more likely to trade with traders who are located physically closer and are less likely to trade with traders that have misbehaved in the past. Lastly, we use our empirical model to investigate the unbundling of equity research and execution services related to the MiFID II regulations. While under-reporting for the average firm is relatively small (4%), we find that the bundling of execution and research allows some institutional investors to under-report management fees by up to 15%.

I study how brokers distort household investment decisions. Using a novel convertible bond dataset, I find that consumers often purchase dominated bonds—cheap and expensive versions of otherwise identical bonds coexist in the market. The empirical evidence suggests that broker incentives are responsible for the inferior investments, as brokers earn a 1.12 percentage point higher fee relative to the notional invested for selling the dominated bond on average. I develop and estimate a broker intermediated search model that rationalizes this behavior and quantifies the distortions in these markets. In the model, consumer search is endogenously directed according to the incentives of brokers, and brokers price discriminate based on a consumer's level of sophistication. The model estimates indicate that costly search is a key friction in retail financial markets, but the effects of search costs are compounded when brokers are incentivized to direct the search of consumers towards high fee inferior products.

Article | Journal of Political Economy | February 2019

The Market for Financial Adviser Misconduct

Mark Egan, Gregor Matvos and Amit Seru

We construct a novel database containing the universe of financial advisers in the United States from 2005 to 2015, representing approximately 10% of employment of the finance and insurance sector. We provide the first large-scale study that documents the economy-wide extent of misconduct among financial advisers and the associated labor market consequences of misconduct. Seven percent of advisers have misconduct records, and this share reaches more than 15% at some of the largest advisory firms. Roughly one-third of advisers with misconduct are repeat offenders. Prior offenders are five times as likely to engage in new misconduct as the average financial adviser. Firms discipline misconduct—approximately half of financial advisers lose their jobs after misconduct. The labor market partially undoes firm-level discipline by rehiring such advisers. Firms that hire these advisers also have higher rates of prior misconduct themselves, suggesting "matching on misconduct." These firms are less desirable and offer lower compensation. We argue that heterogeneity in consumer sophistication could explain the prevalence and persistence of misconduct at such firms. Misconduct is concentrated at firms with retail customers and in counties with low education, elderly populations, and high incomes. Our findings are consistent with some firms "specializing" in misconduct and catering to unsophisticated consumers, while others use their clean reputation to attract sophisticated consumers.

Keywords: Financial Advisors; Brokers; consumer finance; Financial Misconduct and Fraud; FINRA; Financial Institutions; Crime and Corruption; Organizational Culture; Personal Finance; Financial Services Industry;

Citation:

Egan, Mark, Gregor Matvos, and Amit Seru. "The Market for Financial Adviser Misconduct." Journal of Political Economy 127, no. 1 (February 2019): 233–295. View Details

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Deposit Competition and Financial Fragility: Evidence from the U.S. Banking Sector

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