Contagion Effects of Bank Failures: Evidence from Capital Markets

This study uses capital market data to analyze the three largest bank failures in U.S. history in an attempt to detect "contagion" effects on the performance of the banking industry and the economy as a whole. The analysis indicates that when the failure of a large bank is caused primarily by problems specific to the bank, such as fraud, no contagion effects are observed. When the failure of a large bank is caused by problems whose revelation is correlated across banks, the observed fall in prices of solvent bank stocks may be interpreted as investors' response to a common type of unfavorable signal, rather than a contagion effect.