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In September 2008, the government-sponsored enterprises (GSEs)
Fannie Mae and Freddie Mac were placed into conservatorship and
dividend payments on common and preferred shares were suspended. As
a result, share prices fell to nearly zero and many banks across
the country lost the value of their investments in the preferred
shares. We estimate more than 600 depository institutions in the
United States were exposed to at least $8 billion in investment
losses from these securities. In addition, fifteen failures and two
distressed mergers either directly or indirectly resulted from the
takeover. Since these GSE investments were considered to be safe
investments by banks, regulators, and rating agencies, we consider
these losses to be exogenous shocks to bank capital, and use this
event to examine the relationship between community bank condition
and lending during this crisis. We find that in the quarter
following the takeover of Fannie Mae and Freddie Mac, the measured
Tier 1 capital ratio at exposed banks fell about three percent on
average, and loan growth at exposed banks with median
capitalization was about 2 percentage points lower compared to
other banks in the following quarter. Consequently, considering the
set of community banks that incurred about $2 billion in
GSE-related losses, and assuming that each bank reduced loan growth
by 2 percentage points, the estimated aggregate lending drop among
these banks would be roughly $4 billion.
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