Regulatory Capital Management to Exceed Thresholds

68 Pages Posted: 28 Aug 2018 Last revised: 27 Oct 2021

See all articles by Luciana Orozco

Luciana Orozco

BI Norwegian Business School

Silvina Rubio

University of Bristol

Date Written: October 27, 2021

Abstract

The Federal Deposit Insurance Corporation Act (FDICIA) of 1991 introduces the 10% threshold to separate well capitalized from adequately capitalized banks, granting benefits to banks that fall into the former category. We document a strong discontinuity around the 10% threshold of reported regulatory capital, suggesting that these benefits matter for banks. The time-series and cross-sectional variation in the significance and magnitude of the discontinuity indicate that banks manage regulatory capital to pay lower deposit insurance fees, access brokered deposits, and access financial activities. We find that the probability of banks having accretive abnormal loan loss provisions or realized gains and losses almost doubles in the vicinity of the 10% threshold. We also show that banks use other nonaccounting tools to reach the well capitalized categorization. Our results indicate that capital regulation creates incentives for banks to manage their reported ratios. We exploit this discontinuity in a regression discontinuity design and find some evidence that regulatory capital management has detrimental effects on bank stability when banks use accounting management but not when they raise equity directly or receive a transfer from the parent institution.

Keywords: Regulatory capital; Accrual management; Real management; Bank accounting; Discontinuities

JEL Classification: G28, M41, M48

Suggested Citation

Orozco, Luciana and Rubio, Silvina, Regulatory Capital Management to Exceed Thresholds (October 27, 2021). Available at SSRN: https://ssrn.com/abstract=3234652 or http://dx.doi.org/10.2139/ssrn.3234652

Luciana Orozco

BI Norwegian Business School ( email )

Nydalsveien 37
Oslo, 0442
Norway

HOME PAGE: http://https://sites.google.com/prod/view/lucianaorozco/home

Silvina Rubio (Contact Author)

University of Bristol ( email )

United States

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