Preventing Borrower Runs: The Prompt Corrective Action Approach

Abstract

We ask whether regulatory intervention in the form of prompt corrective action that seeks to bring troubled banks back to health by imposing temporary restrictions and increasing regulatory monitoring reverses borrower runs. Using the Indian PCA regime and exploiting the sharp discontinuity provided by the entry criteria in a regression discontinuity framework, we find that timely regulatory intervention reduces loan delinquency by way of borrower runs by 93%. Cross-sectional tests based on regional variation in court efficiency and the relationship between economic shocks and delinquency show that a reduction in strategic default leads to improvement in loan performance.