Policy Uncertainty, Financial Stability and Economic Instability: Evidence from US Banks

Abstract

This research examines financial stability within American banks taking into account unexpected economic shocks. The sample used in this paper consists of 165 commercial banks operating in the United States during the 2000-2022 period. The authors utilize the fixed effects model, the two-step generalized method of moments estimator, and the quantile regression. On the one hand, the results evince that the profitability, liquidity and capital have a positive influence on bank stability across all levels of stability. On the other hand, the findings substantiate that the credit risk negatively affects bank stability. However, this impact varies across the distribution of bank stability. The outcomes simultaneously highlight the disastrous effects of unforeseen economic shocks on bank stability, revealing distinct effects across various quantiles of the stability distribution. This paper contributes to the literature as a pioneering study that includes a wide range of economic uncertainty factors in the U.S. banking system. Indeed, it allows distinguishing the different sources of economic turbulence affecting stability levels in banks. This is achieved by modelling data over an extended period that includes multiple overlapping crises. Moreover, this study adds to the scarce existing research by revealing the heterogeneous effects of uncertainty factors as well as bank variables on banking stability across different quantiles of the distribution.