Corporate governance structure and capital adequacy: implications to bank risk taking

Abstract

PurposeThe purpose of this paper is to show the importance of policy discussions on the role of governance in limiting excessive risk-taking at times of turmoil.Design/methodology/approachCorporate governance measures are regressed on measures of risk taking using a sample of US bank holding companies (BHCs) during 2002-2014.FindingsResults show that BHCs with more concentrated shareholders, more managerial ownership, smaller boards, and less outside directors undertake less risky investments with respect to total assets, loans, and off-balance-sheet items. Capital adequacy effect is overpowering pushing for more risky positions. Finally, banks with good governance push for less risky positions, even with larger capital ratios, during the financial crisis period relative to the precrisis boom.Practical implicationsThis paper extends research on the association between bank ownership structure and risk taking. It adds to prior research by examining a key feature of banks, namely, their bank-specific capital adequacy. The relevance of this study stems from recent initiatives undertaken by the Basel Committee, the Group of Thirty (G30), and bank regulators to address deficient corporate governance structures that led to bank breakdowns.Originality/valueOne of the innovations of this paper is the use of risk-weighted measures to proxy for risk taking in banks, using risk weights used by bank regulators to adjust for operational risk, credit risk, and market risk.