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Rating systems, procyclicalilty and Basel II: an evaluation in a general equilibrium framework

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  • Chiara Pederzoli
  • Costanza Torricelli

Abstract

The introduction of Basel II has raised concerns about the potential impact of risk-sensitive capital requirements on the business cycle.� Several approaches have been proposed to assess the procyclicality issue.� In this paper, we adopt a general equilibrium model and conduct comprehensive analysis of different proposals.� We set out a model that allows to evaluate different rating systems in relation to the procyclicality issue.� Our model extends previous models by analysing the effects of different rating systems on banks' portfolios (as in Catarineu-Rabell et al. 2005) and the contagion effects relevant to financial stability (as in Goodhart et al. 2005).� The paper presents comparative statics results comparing a cycle-dependent and a neutral rating system from the point of view of banks profit maximization.� Our results suggest that banks' preferences about point in time or through the cycle rating systems depend on the banks' characteristics and on the business cycle conditions in terms of expectations and realizations.

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Bibliographic Info

Paper provided by University of Oxford, Department of Economics in its series Economics Series Working Papers with number 2008fe27.

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Date of creation: 01 Jun 2008
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Handle: RePEc:oxf:wpaper:2008fe27

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  1. Pederzoli, Chiara & Torricelli, Costanza, 2005. "Capital requirements and business cycle regimes: Forward-looking modelling of default probabilities," Journal of Banking & Finance, Elsevier, vol. 29(12), pages 3121-3140, December.
  2. Dimitrios P Tsomocos & Charles A.E. Goodhart, 2004. "A Risk Assessment Model for Banks," Economics Series Working Papers 2004-FE-11, University of Oxford, Department of Economics.
  3. Gordy, Michael B. & Howells, Bradley, 2006. "Procyclicality in Basel II: Can we treat the disease without killing the patient?," Journal of Financial Intermediation, Elsevier, vol. 15(3), pages 395-417, July.
  4. Eva Catarineu-Rabell & Patricia Jackson & Dimitrios P.Tsomocos, 2003. "Procyclicality and the new Basel Accord - Banks' choice of loan rating system," OFRC Working Papers Series 2003fe06, Oxford Financial Research Centre.
  5. Jokivuolle , Esa & Vesala, Timo, 2007. "Portfolio effects and efficiency of lending under Basel II," Research Discussion Papers 13/2007, Bank of Finland.
  6. Charles Goodhart & Pojanart Sunirand & Dimitrios Tsomocos, 2006. "A model to analyse financial fragility," Economic Theory, Springer, vol. 27(1), pages 107-142, 01.
  7. Dimitrios P. Tsomocos, 2003. "Equilibrium Analysis, Banking and Financial Instability," OFRC Working Papers Series 2003fe08, Oxford Financial Research Centre.
  8. Con Keating & Hyun Song Shin & Charles Goodhart & Jon Danielsson, 2001. "An Academic Response to Basel II," FMG Special Papers sp130, Financial Markets Group.
  9. Charles A.E. Goodhart & Pojanart Sunirand & Dimitrios P. Tsomocos, 2004. "A Model to Analyse Financial Fragility: Applications," OFRC Working Papers Series 2004fe05, Oxford Financial Research Centre.
  10. Pamela Nickell & William Perraudin & Simone Varotto, 2001. "Stability of ratings transitions," Bank of England working papers 133, Bank of England.
  11. Anil Bangia & Francis X. Diebold & Til Schuermann, 2000. "Ratings Migration and the Business Cycle, With Application to Credit Portfolio Stress Testing," Center for Financial Institutions Working Papers 00-26, Wharton School Center for Financial Institutions, University of Pennsylvania.
  12. Claudio Borio & Craig Furfine & Philip Lowe, 2001. "Procyclicality of the financial system and financial stability: issues and policy options," BIS Papers chapters, in: Bank for International Settlements (ed.), Marrying the macro- and micro-prudential dimensions of financial stability, volume 1, pages 1-57 Bank for International Settlements.
  13. Repullo, Rafael & Suarez, Javier, 2008. "The Procyclical Effects of Basel II," CEPR Discussion Papers 6862, C.E.P.R. Discussion Papers.
  14. Anil Kashyap & Jeremy C. Stein, 2004. "Cyclical implications of the Basel II capital standards," Economic Perspectives, Federal Reserve Bank of Chicago, issue Q I, pages 18-31.
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Cited by:
  1. Benjamin Tabak & Daniel Cajueiro & Dimas Fazio, 2013. "Financial fragility in a general equilibrium model: the Brazilian case," Annals of Finance, Springer, vol. 9(3), pages 519-541, August.
  2. Dimitrios Tsomocos & Charles Goodhart & M.U. Peiris & Alexandros Vardoulakis, 2010. "On Dividend Restrictions and the Collapse of the Interbank Market," FMG Discussion Papers dp648, Financial Markets Group.
  3. Panayiotis P. Athanasoglou & Ioannis Daniilidis, 2011. "Procyclicality in the banking industry: causes, consequences and response," Working Papers 139, Bank of Greece.
  4. Olivier Bruno & Alexandra Girod, 2013. "Procyclicality and Bank Portfolio Risk Level under a Constant Leverage Ratio," GREDEG Working Papers 2013-35, Groupe de REcherche en Droit, Economie, Gestion (GREDEG CNRS), University of Nice Sophia Antipolis.

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