Bank capital buffer and risk adjustment decisions

Abstract

a b s t r a c tBuilding an unbalanced panel of United States (US) bank holding company (BHC) and commercial bank balance-sheet data from 1986 to 2008, we examine the relationship between short-term capital buffer and portfolio risk adjustments. Our estimations indicate that the relationship over the sample period is a positive two-way relationship. Moreover, we show that the management of such adjustments is dependent on the degree of bank capitalization. Further investigation through time-varying analysis reveals a cyclical pattern in the uncovered relationship: negative after the 1991/1992 crisis, and positive before 1991 and after 1997.

Capital Levels and Risk-Taking Propensity in Financial Institutions

“…Also Furlong and Keeley (1989) find that, for a value-maximizing bank, incentives to increase asset risk decline as its capital increases. We note that our results are also consistent with the empirical finding that profitable institutions tend to be well capitalized, even in the presence of deposit insurance; see for instance Berger (1995), Demirgúç and Huizinga (1999), Staikouras and Wood (2004), Goddard, Molyneux and Wilson (2004), Graf (2011), andJokipii andMilne (2011). The reason is that profitable financial institutions will have a high franchise which is worth protecting by targeting high capital levels.…”

Capital Regulation and Bank Risk-Taking Behavior: Evidence from Pakistan

“…Consequently, banks adjust their capital and risk-taking to reach their target levels depending on the extent of their capital buffers [26][27][28]. For example, Jokipii and Milne [2] used a sample of U.S. banks and found a positive association between capital and risk-taking for highly capitalized banks and a negative association between capital and risk-taking for banks with marginal capital adequacy ratios. Camara et al [29] used a sample of European banks and found that an increase in equity of highly capitalized, adequately capitalized, and strongly undercapitalized banks positively affects risk, whereas an increase in equity of moderately undercapitalized banks negatively affects risk.…”

“…In addition, although these multi-country studies are helpful in general understanding 2 , some recent studies such 2 A number of recent studies such as Ashraf and Zheng [32], Ashraf et al [33], Ashraf et al [34], Houston et al [35], Ashraf [36], Kanagaretnam et al [37], Ashraf [38] and Zheng and Ashraf [39] find that country-level institutions (e.g., bank regulations, national culture, legal institutions, political institutions, trade and capital openness, etc.) are important for different practices 4 of 20 as Agoraki et al [40], Jokipii and Milne [2] and Delis et al [41] show the heterogeneous effects of capital regulation on bank risk-taking, depending upon factors such as the market power of a bank, other prudential regulations that can affect bank risk in addition to capital regulation, and the capital regulation implementation period in a country. Therefore, it is important to study the consequences of implementation of capital regulation in the specific context of Pakistan.…”

The Effects of Bank Regulation on the Relationship Between Capital and Risk

“…In the determination of the capital ratio, liquidity is also considered to be a significant variable, but the direction of the relationship is still unclear (Jokipii and Milne, 2011;Athanasoglou, 2011). Recent studies confirm that banks might hold liquidity as insurance against shocks and use it as a buffer, limiting the need for additional capital (Jokipii and Milne, 2011), while other banks (such as small banks) might increase capital to compensate for a lack of liquidity (Distinguin et al, 2013).…”

“…Recent studies confirm that banks might hold liquidity as insurance against shocks and use it as a buffer, limiting the need for additional capital (Jokipii and Milne, 2011), while other banks (such as small banks) might increase capital to compensate for a lack of liquidity (Distinguin et al, 2013).…”