The impact of government guarantees on banks’ wholesale funding costs and risk taking: evidence from a natural experiment
This study compares the effect of the introduction and removal of the Australian Government Wholesale Funding Guarantee Scheme (WGS) on the funding costs and risk taking incentives of authorised deposit-taking institutions (ADIs). This government guarantee was introduced in the height of the international financial crisis to reduce bank failures. We examine whether the guarantee may have also induced changes in banks’ risk taking incentives. We analyze a sample of 240 ADIs over the period from March 2002 to December 2014 and employ a difference-indifferences approach. We find strong causal evidence to indicate that the government guarantee helped ADIs to significantly reduce their funding costs even beyond the subsequent removal of the guarantee scheme. Furthermore, we find increased bank leverage and reduced market discipline after WGS participation. A robustness check using guaranteed and non-guaranteed bonds issued by ADIs confirms the benefit of a reduction in bank funding costs from the government guarantee and moral hazard concerns.