Financial Frictions and the Credit Transmission Channel: Capital Requirements and Bank Capital

Abstract

Standard-Nutzungsbedingungen:Die Dokumente auf EconStor dürfen zu eigenen wissenschaftlichen Zwecken und zum Privatgebrauch gespeichert und kopiert werden.Sie dürfen die Dokumente nicht für öffentliche oder kommerzielle Zwecke vervielfältigen, öffentlich ausstellen, öffentlich zugänglich machen, vertreiben oder anderweitig nutzen.Sofern die Verfasser die Dokumente unter Open-Content-Lizenzen (insbesondere CC-Lizenzen) zur Verfügung gestellt haben sollten, gelten abweichend von diesen Nutzungsbedingungen die in der dort genannten Lizenz gewährten Nutzungsrechte. The recent global nancial crisis, which is already being compared in magnitude and possible long-term consequences to the Great Depression, has exposed the weaknesses of nancial markets as well as their regulatory framework. In particular, it has become clear that minimum capital requirements in their current form are not sucient to keep banks from increased risk-taking and, as safety buers, to protect banks from default. The loss absorption capacity of the banking system is by now widely considered to be too low. Terms of use: Documents in EconStor mayIn addition, capital regulations may have even contributed to the severity of the recent crisis: it is widely accepted that capital requirements are pro-cyclical (Bec and Gollier (2009)), and thus amplify business cycle uctuations (Blum and Hellwig (1995), Kashyap and Stein (2004) and Heid (2007)). In the light of above considerations a major overhaul of the system of capital requirements and more generally of the structure 1 of bank regulation has been agreed upon and is to be implemented over the coming years (Basel Committee (2010)). Under Basel-III capital requirements will be tightened in various ways and a rst step has been made to create a less pro-cyclical regulatory framework. At the same time the plans to implement this new system have triggered a wide set of questions: will tightening requirements turn out to be an impediment for economic growth in the long term? Will it delay recovery in the short term? Will it reduce or even eliminate pro-cyclicality of the system? What will in fact be the impact on actual capital ratios? Will banks respond by increasing their capital or will they just absorb the new rules by lowering already existing buers they hold in excess of current regulatory ratios?While answers to most of these questions will require a general equilibrium framework, any general equilibrium eects will be triggered by changes in the banks' actual capital levels. In this paper we focus entirely on this issue, i.e. we investigate the direct impact of minimum requirements on banks' capital choices, before general equilibrium eects come into play. We believe that a precise analysis of the actual capital's dynamics in presence of capital regulations is a necessary rst step towards further welfare analysis and policy implications. For example, if in equilibrium banks' actual capital responds more than one-to-one to a raise in minimum requirements, the pro-cyclical character of capital regulatio...

Macroprudential Regulation: A Risk Management Approach

“…In the first step, we derive the implied variance of the risk-weighted portfolio of assets for all banks from observing their current capital ratio and current default probability. In the second step, we abstract from the fact that banks may want to hold capital headroom above requirements, for example, to avoid ex-post penalties for violating the minimum capital requirements (cf Gornicka and van Wijnbergen (2013). Assuming that the minimum requirements are binding, we put all banks on an equal footing and vary the required macroprudential buffers above the minimum capital requirement and the capital conservation buffer.…”

Macroprudential Regulation: A Risk Management Approach

“…In the first step, we derive the implied variance of the risk-weighted portfolio of assets for all banks from observing their current capital ratio and current default probability. In the second step, we abstract from the fact that banks may want to hold capital headroom above requirements, for example, to avoid ex-post penalties for violating the minimum capital requirements (cf Gornicka and van Wijnbergen (2013). Assuming that the minimum requirements are binding, we put all banks on an equal footing and vary the required macroprudential buffers above the minimum capital requirement and the capital conservation buffer.…”