Tailoring Bank Capital Regulation for Tail Risk
AbstractThe experience of the 2007-09 financial crisis has showed that the bank capital regulation in place was inadequate to deal with "manufacturing" tail risk in the financial sector. This paper proposes an incentive-based design of bank capital regulation aimed at efficiently dealing with tail risk engendered by bank top managers. It has two specific features: (i) first, it incorporates information on the optimal incentive contract between bank shareholders and bank managers, thereby dealing with the internal agency problem; (ii) second, it relies on the mechanism of mandatory recapitalization to ensure this contract is adopted by bank shareholders.
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Date of creation: Feb 2013
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capital requirements; tail risk; recapitalization; incentive compensation; moral hazard;
This paper has been announced in the following NEP Reports:
- NEP-ALL-2013-03-16 (All new papers)
- NEP-BAN-2013-03-16 (Banking)
- NEP-CBA-2013-03-16 (Central Banking)
- NEP-CTA-2013-03-16 (Contract Theory & Applications)
- NEP-RMG-2013-03-16 (Risk Management)
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