Bank capital regulation in a cap option framework
Synergy-banking management under capital regulation is done through a gluing together of lending and deposit-taking. Under this viewpoint, we argue that the cap options theory of corporate security valuation can be applied to the contingent claims of the synergy-banking firm. The equity holders of the bank own a cap option on the bank equity return which can be considered against their expected investment opportunity costs captured by the cap rates. We show that an increase in the cap rate increases the risky loans held by the bank at a lower interest margin, and then increases the equity risk and the default risk of equity. An increase in the capital-to-deposits ratio decreases the risky loans held by the bank at an increased margin, and decreases the bank's equity risk and the default probability in the bank's equity. Capital regulation as such makes the bank more prudent and less prone to risk-taking, thereby contributing to the stability of the banking system. Our findings may support increased capital requirements in the spirit of the Dodd–Frank Act of the Basel Accord (Eubanks, 2010).
If you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.
As the access to this document is restricted, you may want to look for a different version under "Related research" (further below) or search for a different version of it.
Volume (Year): 25 (2013)
Issue (Month): C ()
|Contact details of provider:|| Web page: http://www.elsevier.com/locate/inca/620165|
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
- Duan, J. & Sealey, C. W. & Yan, Y., 1999. "Managing banks' duration gaps when interest rates are stochastic and equity has limited liability," International Review of Economics & Finance, Elsevier, vol. 8(3), pages 253-265, September.
- M. A. Petersen & Janine Mukuddem-Petersen, 2005. "Stochastic behaviour of risk-weighted bank assets under the Basel II capital accord," Applied Financial Economics Letters, Taylor and Francis Journals, vol. 1(3), pages 133-138, May.
- Anil K. Kashyap & Raghuram G. Rajan & Jeremy C. Stein, 1998.
"Banks as liquidity providers: an explanation for the co-existence of lending and deposit-taking,"
582, Federal Reserve Bank of Chicago.
- Anil K. Kashyap & Raghuram Rajan & Jeremy C. Stein, 2002. "Banks as Liquidity Providers: An Explanation for the Coexistence of Lending and Deposit-Taking," Journal of Finance, American Finance Association, vol. 57(1), pages 33-73, 02.
- Anil K. Kashyap & Raghuram Rajan & Jeremy C. Stein, 1999. "Banks as Liquidity Providers: An Explanation for the Co-Existence of Lending and Deposit-Taking," NBER Working Papers 6962, National Bureau of Economic Research, Inc.
- Thakor, Anjan V, 1996. " Capital Requirements, Monetary Policy, and Aggregate Bank Lending: Theory and Empirical Evidence," Journal of Finance, American Finance Association, vol. 51(1), pages 279-324, March.
- Ling Chu & Robert Mathieu & Sean Robb & Ping Zhang, 2007. "Bank capitalization and lending behavior after the introduction of the Basle Accord," Review of Quantitative Finance and Accounting, Springer, vol. 28(2), pages 147-162, February.
- Stolz, Stéphanie, 2002. "The Relationship between Bank Capital, Risk-Taking, and Capital Regulation: A Review of the Literature," Kiel Working Papers 1105, Kiel Institute for the World Economy (IfW).
- VanHoose, David, 2007. "Theories of bank behavior under capital regulation," Journal of Banking & Finance, Elsevier, vol. 31(12), pages 3680-3697, December.
- Black, Fischer, 1976. "The pricing of commodity contracts," Journal of Financial Economics, Elsevier, vol. 3(1-2), pages 167-179.
- Black, Fischer & Scholes, Myron S, 1973. "The Pricing of Options and Corporate Liabilities," Journal of Political Economy, University of Chicago Press, vol. 81(3), pages 637-54, May-June.
- Jean-Charles Rochet, 2004. "Rebalancing the three pillars of Basel II," Economic Policy Review, Federal Reserve Bank of New York, issue Sep, pages 7-21.
- Sophocles N. Brissimis & Manthos D. Delis, 2009.
"Bank-Level Estimates of Market Power,"
93, Bank of Greece.
- Wong, Kit Pong, 2011. "Regret theory and the banking firm: The optimal bank interest margin," Economic Modelling, Elsevier, vol. 28(6), pages 2483-2487.
- Maria Vassalou & Yuhang Xing, 2004. "Default Risk in Equity Returns," Journal of Finance, American Finance Association, vol. 59(2), pages 831-868, 04.
- Lin, Jyh-Horng & Jou, Rosemary, 2005. "Financial e-commerce under capital regulation and deposit insurance," International Review of Economics & Finance, Elsevier, vol. 14(2), pages 115-128.
- Tsai, Jeng-Yan & Chang, Chuen-Ping, 2012. "Call-pricing equity returns and default risks of entry mode with brand perception in retail banking," International Review of Economics & Finance, Elsevier, vol. 21(1), pages 29-41.
- Andre, P. & Mathieu, R. & Zhang, P., 2001. "A note on: Capital adequacy and the information content of term loans and lines of credit," Journal of Banking & Finance, Elsevier, vol. 25(2), pages 431-444, February.
- Francis A. Longstaff, 2001. "The Relative Valuation of Caps and Swaptions: Theory and Empirical Evidence," Journal of Finance, American Finance Association, vol. 56(6), pages 2067-2109, December.
- Ronn, Ehud I & Verma, Avinash K, 1986. " Pricing Risk-Adjusted Deposit Insurance: An Option-Based Model," Journal of Finance, American Finance Association, vol. 41(4), pages 871-95, September.
- Saunders, Anthony & Schumacher, Liliana, 2000. "The determinants of bank interest rate margins: an international study," Journal of International Money and Finance, Elsevier, vol. 19(6), pages 813-832, December.
- Jeremy C. Stein & Anil K. Kashyap, 2000. "What Do a Million Observations on Banks Say about the Transmission of Monetary Policy?," American Economic Review, American Economic Association, vol. 90(3), pages 407-428, June.
When requesting a correction, please mention this item's handle: RePEc:eee:reveco:v:25:y:2013:i:c:p:66-74. See general information about how to correct material in RePEc.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Shamier, Wendy)
If references are entirely missing, you can add them using this form.