Optimal Bank Capital with Costly Recapitalization

Peura, Samu; Keppo, Jussi

doi:10.2139/ssrn.318347

Cited by 46 publications

(43 citation statements)

References 48 publications

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“…The equilibrium value of CAR may be decomposed into the minimum common equity ratio required by Basel regulations (κ) and the equilibrium value of other capital components (µ), including hybrid capital, Tier 2 capital and additional capital held by banks beyond that required by capital adequacy rules. Banks may choose to hold capital in addition to that required by regulations as a hedge against credit and liquidity risk (see Booth et al (2001), Peura and Keppo (2006) and Flannery and Rangan (2006)). …”

Section: Long-run Relationshipsmentioning

confidence: 99%

Macro effects of capital requirements and macroprudential policy

Akram¹

2014

Economic Modelling

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Working papers fra Norges Bank, fra 1992/1 til 2009/2 kan bestilles over e-post: servicesenter@norges-bank.no Fra 1999 og senere er publikasjonene tilgjengelige på www.norges-bank.no Working papers inneholder forskningsarbeider og utredninger som vanligvis ikke har fått sin endelige form. Hensikten er blant annet at forfatteren kan motta kommentarer fra kolleger og andre interesserte. Synspunkter og konklusjoner i arbeidene står for forfatternes regning.Working papers from Norges Bank, from 1992/1 to 2009/2 can be ordered by e-mail: servicesenter@norges-bank.no Working papers from 1999 onwards are available on www.norges-bank.no Norges Bank's working papers present research projects and reports (not usually in their final form) and are intended inter alia to enable the author to benefit from the comments of colleagues and other interested parties. Views and conclusions expressed in working papers are the responsibility of the authors alone. Basel III are found to have significant effects especially on house prices and credit. I also derive optimal paths for the countercyclical capital buffer in response to various shocks. The buffer is found to equal its imposed ceiling of 2.5% in response to most of the shocks considered while its duration varies in the range of 1-12 quarters depending on the shock and its persistence.

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Section: Long-run Relationshipsmentioning

confidence: 99%

Macro effects of capital requirements and macroprudential policy

Akram¹

2014

Economic Modelling

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“…In contrast to these papers, our approach studies the circumstances under which the market equilibrium is constrained efficient and the nature of socially optimal capital regulation when it is not. Possible explanations for capital holding in excess of the regulatory minimum based on dynamic considerations are suggested by Blum and Hellwig (1995), Bolton and Freixas (2006), Peura and Keppo (2006), and Van den Heuvel (2008). In all of these, banks choose a buffer above the regulatory requirement as a way to ensure they do not violate the regulatory constraint.…”

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confidence: 99%

Credit Market Competition and Capital Regulation

2008

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Empirical evidence suggests that banks hold capital in excess of regulatory minimums. This did not prevent the financial crisis and underlines the importance of understanding bank capital determination. Market discipline is one of the forces that induces banks to hold positive capital. The literature has focused on the liability side. We develop a simple theory based on monitoring to show that discipline from the asset side can also be important. In perfectly competitive markets, banks can find it optimal to use costly capital rather than the interest rate on the loan to commit to monitoring because it allows higher borrower surplus.

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“…Using this perspective, Peura and Keppo (2006) explain the pattern of capital buffers observed in a sample of US commercial banks. However, note that our results remain valid even if we assume that banks hold more capital than required by the regulator.…”

Section: Leverage Regulationmentioning

confidence: 99%

Taming the Basel Leverage Cycle

et al. 2015

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Effective risk control must make a tradeoff between the microprudential risk of exogenous shocks to individual institutions and the macroprudential risks caused by their systemic interactions. We investigate a simple dynamical model for understanding this tradeoff, consisting of a bank with a leverage target and an unleveraged fundamental investor subject to exogenous noise with clustered volatility. The parameter space has three regions: (i) a stable region, where the system always reaches a fixed point equilibrium; (ii) a locally unstable region, characterized by cycles and chaotic behavior; and (iii) a globally unstable region. A crude calibration of parameters to data puts the model in region (ii). In this region there is a slowly building price bubble, resembling a "Great Moderation", followed by a crash, with a period of approximately 10-15 years, which we dub the Basel leverage cycle. We propose a criterion for rating macroprudential policies based on their ability to minimize risk for a given average leverage. We construct a one parameter family of leverage policies that allows us to vary from the procyclical policies of Basel II or III, in which leverage decreases when volatility increases, to countercyclical policies in which leverage increases when volatility increases. We find the best policy depends critically on three parameters: The average leverage used by the bank; the relative size of the bank and the fundamentalist, and the amplitude of the exogenous noise. Basel II is optimal when the exogenous noise is high, the bank is small and leverage is low; in the opposite limit where the bank is large or leverage is high the optimal policy is closer to constant leverage. We also find that systemic risk can be dramatically decreased by lowering the leverage target adjustment speed of the banks.Keywords: Financial stability, capital regulation, systemic risk. JEL classification: G01, G11, G20. This paper is published as part of the Systemic Risk Centre's Discussion Paper Series. All rights reserved. No part of this publication may be reproduced, stored in a retrieval system or transmitted in any form or by any means without the prior permission in writing of the publisher nor be issued to the public or circulated in any form other than that in which it is published.Requests for permission to reproduce any article or part of the Working Paper should be sent to the editor at the above address. AbstractEffective risk control must make a tradeoff between the microprudential risk of exogenous shocks to individual institutions and the macroprudential risks caused by their systemic interactions. We investigate a simple dynamical model for understanding this tradeoff, consisting of a bank with a leverage target and an unleveraged fundamental investor subject to exogenous noise with clustered volatility. The parameter space has three regions: (i) a stable region, where the system always reaches a fixed point equilibrium; (ii) a locally unstable region, characterized by cycles and chaotic behavior; and (...

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Optimal Bank Capital with Costly Recapitalization

Cited by 46 publications

References 48 publications

Macro effects of capital requirements and macroprudential policy

Macro effects of capital requirements and macroprudential policy

Credit Market Competition and Capital Regulation

Taming the Basel Leverage Cycle

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