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Ex Ante Versus Ex Post Regulation of Bank Capital

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Author Info
Arup Daripa (Birkbeck College, London University)
Simone Varotto (ICMA Centre, University of Reading)

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Abstract

The current debate on the new Basel Accord gives rise to a natural question about the appropriate form of capital regulation.We construct a simple framework to analyze this issue. In our model the risk carried by a bank as well as managerial risk preference are a bank's private information. We show that ex ante constraints waste the superior risk information of a bank, while an ex post regime makes full use of it. However, the latter is more vulnerable to the problem of unknown managerial risk-aversion. The results imply that the two regimes are complements, rather than substitutes. Further, under plausible conditions, an ex post regime emerges as the dominant element of the optimal combination. We use the results to shed light on current policy concerns. In particular, our results provides theoretical underpinning for the inclusion of pillar 2 alongside pillar 1 in Basel II.

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Paper provided by EconWPA in its series Finance with number 0511009.

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Length: 50 pages
Date of creation: 17 Nov 2005
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Handle: RePEc:wpa:wuwpfi:0511009

Note: Type of Document - pdf; pages: 50
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Web page: http://129.3.20.41

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Related research
Keywords: Ex Ante Regulation; Ex Post Regulation; Asymmetric Information; Safety Loss; Overprotection Loss; Safety Bias; Basel II.;

Other versions of this item:

Find related papers by JEL classification:
G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation
D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information
L51 - Industrial Organization - - Regulation and Industrial Policy - - - Economics of Regulation

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