How Do Bank Capital and Capital Adequacy Regulation Affect the Monetary Transmission Mechanism?

31 Pages Posted: 9 Dec 2002

Date Written: October 2002

Abstract

This paper analyzes the effect of bank capital adequacy regulation on the monetary transmission mechanism. Using a general equilibrium framework and a representative bank, the model demonstrates that the monetary transmission mechanism is weakened if banks are poorly capitalized, or if the capital adequacy requirement is stringent. The paper also assesses the impact of the New Basel Accord (Basel II), and argues that a rise in credit risk may lead to a sharper loan contraction under this new regime. Moreover, it predicts that Basel II may reduce the effectiveness of monetary policy as a tool for stimulating output during recessions.

JEL Classification: E5, G2

Suggested Citation

Tanaka, Misa, How Do Bank Capital and Capital Adequacy Regulation Affect the Monetary Transmission Mechanism? (October 2002). Available at SSRN: https://ssrn.com/abstract=348461 or http://dx.doi.org/10.2139/ssrn.348461

Misa Tanaka (Contact Author)

Bank of England ( email )

Threadneedle Street
London, EC2R 8AH
United Kingdom

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