Rules, Standards, and Complexity in Capital Regulation

24 Pages Posted: 25 Dec 2013 Last revised: 20 Nov 2014

Prasad Krishnamurthy

U.C. Berkeley School of Law; University of California, Berkeley - School of Law, Berkeley Center for Law, Business and the Economy; University of California, Berkeley

Date Written: May 1, 2014

Abstract

This article considers two fundamental issues in the design of bank capital regulation — the choice of a rule or standard and the level of complexity in that rule or standard — by revisiting the historical adoption of minimum-capital requirements and risk-based capital requirements. Both theory and the historical evidence suggest that a minimum-capital requirement is optimal when bank regulators seek to manage risks that are costly to estimate and that a risk-weighted capital requirement, in contrast, requires a precise understanding of both bank risk and the strategic response of banks to regulation. This article uses historical evidence to illustrate how cost benefit analysis can be useful in forcing regulators to confront their theories with evidence. The analysis of rules, standards, and complexity that it develops can also inform capital regulation even when the conclusions of cost-benefit analysis are ambiguous.

Keywords: bank, regulation, cost-benefit, capital, rules, standards

Suggested Citation

Krishnamurthy, Prasad, Rules, Standards, and Complexity in Capital Regulation (May 1, 2014). Journal of Legal Studies, Vol. 43 (June 2014). Available at SSRN: https://ssrn.com/abstract=2371612

Prasad Krishnamurthy (Contact Author)

U.C. Berkeley School of Law ( email )

215 Boalt Hall
Berkeley, CA 94720-7200
United States

University of California, Berkeley - School of Law, Berkeley Center for Law, Business and the Economy ( email )

Berkeley, CA 94720-7200

University of California, Berkeley ( email )

310 Barrows Hall
Berkeley, CA 94720
United States

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