Frequency vs. Size of Bank Fines in Local Credit Markets

We examine how banking supervisors affect credit at the local level by charging fines to individual banks. Using a macro approach to capture the direct effect on the fined bank and the indirect effect on the other banks operating in the local credit market, we estimate reputational, reallocation and balance sheet effects on Italian provinces over the period 2005-2016 by a fixed effects model and instrumental variables. Provincial gross bank loans expand after a fine independently of its size. The impact of fine frequency depends on the size of the provincial banking sector, but neither on bank governance/ownership nor crises. No evidence was found of reputational or other balance sheet effects. Bank supervisors ought to step up the frequency of bank inspections and downplay the size of bank fines. Bank fines work more like a good housekeeping seal of approval, enhancing transparency and effective banking practices, than a penalty