Repullo, Rafael (2013) Cyclical adjustment of capital requirements: a simple framework. Systemic Risk Centre Discussion Papers (3). Systemic Risk Centre, The London School of Economics and Political Science, London, UK.
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Abstract
We present a model of an economy with heterogeneous banks that may be funded with uninsured deposits and equity capital. Capital serves to ameliorate a moral hazard problem in the choice of risk. There is a fixed aggregate supply of bank capital, so the cost of capital is endogenous. A regulator sets risk-sensitive capital requirements in order to maximize a social welfare function that incorporates a social cost of bank failure. We consider the effect of a negative shock to the supply of bank capital and show that optimal capital requirements should be lowered. Failure to do so would keep banks safer but produce a large reduction in aggregate investment. The result provides a rationale for the cyclical adjustment of risk-sensitive capital requirements.
| Item Type: | Monograph (Discussion Paper) |
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| Official URL: | http://www.systemicrisk.ac.uk/ |
| Additional Information: | © 2013 The Author |
| Divisions: | Systemic Risk Centre |
| Subjects: | H Social Sciences > HG Finance |
| JEL classification: | E - Macroeconomics and Monetary Economics > E4 - Money and Interest Rates > E44 - Financial Markets and the Macroeconomy G - Financial Economics > G2 - Financial Institutions and Services > G21 - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages G - Financial Economics > G2 - Financial Institutions and Services > G28 - Government Policy and Regulation |
| Date Deposited: | 18 Feb 2015 10:10 |
| Last Modified: | 02 Jan 2024 19:18 |
| Projects: | ES/K002309/1 |
| Funders: | Economic and Social Research Council |
| URI: | http://eprints.lse.ac.uk/id/eprint/60969 |
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