The Long-Term Effects of Capital Requirements

51 Pages Posted: 11 Jun 2021

See all articles by Gianni De Nicolo

Gianni De Nicolo

Johns Hopkins University - Carey Business School; CESifo (Center for Economic Studies and Ifo Institute)

Nataliya Klimenko

University of Zurich

Sebastian Pfeil

Erasmus University Rotterdam (EUR) - Erasmus School of Economics (ESE); Erasmus Research Institute of Management (ERIM)

Jean-Charles Rochet

Swiss Finance Institute; University of Geneva - Geneva Finance Research Institute (GFRI); University of Zurich - Swiss Banking Institute (ISB)

Multiple version iconThere are 2 versions of this paper

Date Written: 2021

Abstract

We build a stylized dynamic general equilibrium model with financial frictions to analyze costs and benefits of capital requirements in the short-term and long-term. We show that since increasing capital requirements limits the aggregate loan supply, the equilibrium loan rate spread increases, which raises bank profitability and the market-to-book value of bank capital. Hence, banks build up larger capital buffers which (i) lowers the public losses in case of a systemic crisis and (ii) restores the banking sector’s lending capacity after the short-term credit crunch induced by tighter regulation. We confirm our model’s dynamic implications in a panel VAR estimation, which suggests that bank lending has even increased in the long-run after the implementation of Basel III capital regulation.

JEL Classification: E210, E320, F440, G210, G280

Suggested Citation

De Nicolo, Gianni and Klimenko, Nataliya and Pfeil, Sebastian and Rochet, Jean-Charles, The Long-Term Effects of Capital Requirements (2021). CESifo Working Paper No. 9115, Available at SSRN: https://ssrn.com/abstract=3863818

Gianni De Nicolo

Johns Hopkins University - Carey Business School ( email )

100 International Drive
Baltimore, MD 21202
United States
(410) 234-4507 (Phone)

CESifo (Center for Economic Studies and Ifo Institute) ( email )

Poschinger Str. 5
Munich, DE-81679
Germany

Nataliya Klimenko

University of Zurich ( email )

Plattenstrasse 32
Zürich, CH-8006
Switzerland

Sebastian Pfeil (Contact Author)

Erasmus University Rotterdam (EUR) - Erasmus School of Economics (ESE) ( email )

P.O. Box 1738
3000 DR Rotterdam, NL 3062 PA
Netherlands

Erasmus Research Institute of Management (ERIM) ( email )

P.O. Box 1738
3000 DR Rotterdam
Netherlands

Jean-Charles Rochet

Swiss Finance Institute ( email )

c/o University of Geneva
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CH-1211 Geneva 4
Switzerland

University of Geneva - Geneva Finance Research Institute (GFRI) ( email )

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Geneva 4, Geneva 1211
Switzerland

University of Zurich - Swiss Banking Institute (ISB) ( email )

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CH-8032 Zurich, Zurich 8032
Switzerland

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