Policy debate with regard to financial intermediaries has focused on whether, and to what extent, governments should impose capital adequacy requirements on banks, or alternately, whether market forces could also ensure the stability of banking systems. The paper contributes to this debate by showing how market forces may motivate banks to select high capital adequacy ratios as a means of lowering their borrowing costs. If the effect of competition among banks is strong, then it may overcome the tendency for bank capitalisation that arises from systemic effects. If systemic effects are strong, regulation is required. Empirical tests for the Indian public sector banks during the 1990s demonstrate that better capitalised banks experienced lower borrowing costs. These findings suggest that ongoing reform efforts at the international level should primarily focus on increasing transparency and strengthening competition among banks.
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Publisher Info
Paper provided by University Library of Munich, Germany in its series MPRA Paper with number
17398.
Length: Date of creation: Mar 2005 Date of revision: Publication status: Published in Economic and Political Weekly 12.40(2005): pp. 1198-1209 Handle: RePEc:pra:mprapa:17398
Find related papers by JEL classification: G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Mortgages
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