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Regulation and Bankers' Incentives

Author

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  • Fabiana Gómez

    (University of Bristol)

  • Jorge Ponce

    (Banco Central del Uruguay)

Abstract

We formally compare the effects of minimum capital requirements, capital buffers, liquidity requirements and loan loss provisions on the incentives of bankers to exert effort and take excessive risk. We find that these regulations impact differently the behavior of bankers. In the case of investment banks, the application of capital buffers and liquidity requirements makes it more difficult to achieve the first best solution. In the case of commercial banks, capital buffers, reserve requirements and traditional loan loss provisions for expected losses provide adequate incentives to bank managers, although the capital buffer is the most powerful instrument. Counter-cyclical (so-called dynamic) loan loss provisions may provide bank managers with incentives to gamble. The results inform policy makers in the ongoing debate about the harmonization of banking regulation and the implementation of Basel III.

Suggested Citation

  • Fabiana Gómez & Jorge Ponce, 2015. "Regulation and Bankers' Incentives," Documentos de trabajo 2015005, Banco Central del Uruguay.
    • Handle: RePEc:bku:doctra:2015005
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    Cited by:

    1. Selay Sahan & Euan Phimister, 2022. "Worker Incentives in the Banking Industry," Journal of Financial Services Research, Springer;Western Finance Association, vol. 61(2), pages 259-284, April.
    2. Frache, Serafín & García-Cicco, Javier & Ponce, Jorge, 2023. "Countercyclical prudential tools in an estimated DSGE model," Latin American Journal of Central Banking (previously Monetaria), Elsevier, vol. 4(3).

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    More about this item

    Keywords

    Banking regulation; minimum capital requirement; capital buffer; liquidity requirement; (countercyclical) loan loss provision; commercial banks; investment banks; bankers' incentives; effort; risk;
    All these keywords.

    JEL classification:

    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation

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