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  • +The Dark-Side of Banks’ Nonbank Business: Internal Dividends in Bank Holding Companies- PDF
    FDIC Center for Financial Research Working Paper No. 2018-01
    Jonathan Pogach and Haluk Unal

    This Version: January 2018

    Our study highlights the liquidity and capital pressures created by non-banking activities on banks residing within the same bank holding company (BHC). We use a sample of BHCs with large non-bank subsidiaries between 2002 and 2007 to show that banks bear the pressures of dividend smoothing. Banks in BHCs increase internal dividends to parents regardless of their own income. In contrast, non-banks in BHCs appear to be shielded from the pressures of inflexible external dividend policies. We also show that when faced with declining incomes, the banks fund their internal dividends through increased borrowing. Using a differences-in-differences, we show that banks in BHCs increase their payout ratios by 7 percentage points following major non-bank acquisitions during an expanded sample period of 1993-2007. Our evidence on the extraction of cash from banks to fund non-bank activities and capital market pressures to smooth dividends sheds new light on the debate on the optimal scope of BHCs. These observations support the arguments of a dark-side to internal capital markets in which the federally insured banks become a source of strength to the BHC and its non-bank segment.

    JEL Codes: D22, G21, G31, G35, G38, L25
    Keywords: dividends, payout policy, internal capital markets, bank holding company, risk shifting, bank scope-economies

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