In a recent study “Bank Equity and Banking Crises” by Matthew Baron (of Cornell University), Emil Verner (MIT Sloan), and Wei Xiong (Princeton University), the three economists developed a comprehensive database of bank equity prices and banking crises with a full-sample of 46 countries from 1870–2016. They try to understand the dynamic between bank equity decline and banking crises.
Utilizing their newly built database, the researchers find that a large-scale decline in market value of bank equity is an effective predictor of persistently lower subsequent output. They classified a bank equity crash as a 30% decline in real return in a year. Their estimation, as shown below by the blue line, suggests that a decline in bank equity of at least 30% predicts 2.5% lower output after three years.
The real GDP response of bank equity crash is controlled with the non-financial equity returns. As you can see from the figure above, a non-financial equity crash (red line) also, separately, predicts significant and persistently lower real output, and the magnitude is similar to the impact of a bank equity crash.
