Implications of Corporate Capital Structure Theory for Banking Institutions

• Published in: Journal of money, credit and banking credit and banking, 1983-05, Vol.15 (2), p.212
• Main Authors: Orgler, Yair E, Taggart, Robert A
• Format: Article
• Language: English
• Subjects: Banking industry; Banks; Capital; Capital Adequacy; Capital structure; Commercial banks; Debt financing; Economic models; Interest costs; Microeconomics; Regulation; Tax deductions; Tax rates
• ISSN: 0022-2879; 1538-4616
• DOI: 10.2307/1992401

This analysis seeks to draw implications from corporate capital structure theory for the determinants of bank capital structure over time and across banks of different size. Recent work in corporate finance theory on the capital structure effects of taxes and agency costs is reviewed, and the effects of the interaction between the tax system and the production function for financial services on commercial bank capital structures are discussed. The nature of bankruptcy and agency costs in banking and their influence on bank capital are then analyzed. Fundamental differences between commercial banks and nonfinancial firms contribute to a large disparity in their degree of leverage: 1. Banks raise funds in the form of deposits that offer different combinations of interest and services, and since service production costs are bank-specific, the resulting equilibrium will also determine optimal leverage for individual banks. 2. The substantial regulatory and supervisory powers of bank regulatory agencies relative to private creditors of nonfinancial firms are likely to reduce agency costs, which also leads to greater bank leverage.