Capital Requirements, Business Loans, and Business Cycles: An Empirical Analysis of the Standardized Approach in the New Basel Capital Accord

48 Pages Posted: 14 Dec 2001

See all articles by Egon Zakrajsek

Egon Zakrajsek

Federal Reserve Board - Division of Monetary Affairs

Seth B. Carpenter

Federal Reserve Board - Department of Monetary Affairs

William C. Whitesell

Federal Reserve Board - Division of Monetary Affairs

Date Written: November 2001

Abstract

In the current regulatory framework, capital requirements are based on risk-weighted assets, but all business loans carry a uniform risk weight, irrespective of variations in credit risk. The proposed new Capital Accord of the Bank for International Settlements provides for a greater sensitivity of capital requirements to credit risk, raising the question of whether, and to what extent, the new capital standards will intensify business cycles. In this paper, we evaluate the potential cyclical effects of the "standardized approach" to risk evaluation in the new Accord, which involves the ratings of external agencies. We combine Moody's data on changes in U.S. borrowers' credit ratings since 1970 with estimates of the risk profile of business loans at commercial banks from the Survey of Terms of Business Lending, and also a risk profile estimated by Treacy and Carey (1998). We find that the level of required capital against business loans would be noticeably lower under the new Accord compared with the current regime. We do not find evidence of any substantial additional cyclicality in required capital levels under the standardized approach of the new Accord relative to the current regime.

Keywords: New Basel Capital Accord, standardized approach, C&I loans, business cycles

JEL Classification: E32, G18, G21

Suggested Citation

Zakrajsek, Egon and Carpenter, Seth B. and Whitesell, William C., Capital Requirements, Business Loans, and Business Cycles: An Empirical Analysis of the Standardized Approach in the New Basel Capital Accord (November 2001). FEDS Working Paper No. 2001-48. Available at SSRN: https://ssrn.com/abstract=293683 or http://dx.doi.org/10.2139/ssrn.293683

Egon Zakrajsek (Contact Author)

Federal Reserve Board - Division of Monetary Affairs ( email )

20th and C Streets, NW
Washington, DC 20551
United States
202-728-5864 (Phone)
202-452-3819 (Fax)

Seth B. Carpenter

Federal Reserve Board - Department of Monetary Affairs ( email )

20th and C Streets, NW
Mailstop 60
Washington, DC 20551
United States
202-452-2385 (Phone)
202-452-2301 (Fax)

William C. Whitesell

Federal Reserve Board - Division of Monetary Affairs ( email )

20th and C Streets, NW
Mailstop 72
Washington, DC 20551
United States
202-452-2967 (Phone)
202-452-3819 (Fax)

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