Public policy and financial stability: the impact of PCA and TARP on U.S. bank non-performing loans

Jiang, Chunxia, Kanas, Angelos and Molyneux, Philip (2018) Public policy and financial stability: the impact of PCA and TARP on U.S. bank non-performing loans. International Journal of Finance & Economics, 23 (4) . pp. 376-392. ISSN 1076-9307 [Article] (doi:10.1002/ijfe.1622)

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Abstract

This study explores the implications of Prompt Corrective Action (PCA) and the Troubled Asset Relief Program (TARP) on the behavior of non-performing loans (NPLs) and real estate non-performing loans (RELs) in the U.S. over 1984-2015 using a Markov switching framework. We find that NPLs and RELs exhibit pronounced episodic behavior switching between non-stationary and stationary regimes. PCA and TARP have a significant impact on banking sector stability by influencing the probability of switching from non-stationary regimes to stationary regimes and by reducing the level of NPLs and RELs. These results are robust to various model specifications and have important implications for bank regulation as well as for the formulation of macro stress-testing.

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