Bank forbearance: A market-based explanation

Why does forbearance for insolvent banks occur? We offer an explanation based on stockholders’ ability to appeal to the courts for reversal and monetary damages after the regulator has initiated a receivership action. Although this has always been theoretically possible, precedents and common law standards now exist. We calculate the market’s perceived postponement of receiverships for banks thought to be insolvent. We explain the receivership delays with the regulator’s reluctance to proceed when investors’ pricing of the bank’s stock and accountants’ assessment of the bank’s solvency do not support a receivership action. Our clinical evidence is consistent with this notion. Jel Classification: G180; G200; G210; G280