Moral hazard, external governance and risk-taking: Evidence from commercial banks in China

Abstract Using a sample of Chinese commercial banks from 2004 to 2017, this paper investigates whether and how external governance mitigates the moral hazard problem in these banks. China launched its first explicit deposit insurance program in 2015. Taking this program as an example, our empirical results show that the implementation of such a program indeed increases risk-taking of these commercial banks and provide evidence of the presence of moral hazard. We further document that improved external governance via a marketization process plays a role in reducing excessive risk-taking and mitigating the moral hazard problem in the Chinese banking sector.