Procyclicality and the New Basel Accord: banks' choice of loan rating system
The Basel Committee on Banking Supervision is proposing to introduce, in 2005, new risk-based requirements for internationally active (and other significant) banks. These will replace the relatively risk-invariant requirements in the current Accord. This article examines the implications of these new risk-based requirements for procyclicality, in particular whether the choice of particular loan rating system by the banks would significantly increase the likelihood of sharp increases in capital requirements in recessions, creating the potential for classic credit crunches. The paper finds that rating schemes which are designed to be stable over the cycle, akin to those of the external rating agencies, would not increase procyclicality but ratings which are conditioned on the point in the cycle, akin to a Merton approach, could substantially increase procyclicality. This makes the question of which rating schemes banks will use very important. The paper uses a general equilibrium model of the financial system to explore whether banks would choose to use a countercyclical, procyclical or neutral rating scheme. The results indicate that banks would not choose a stable rating approach which has important policy implications for the design of the Accord. The Committee may need to rule out some types of rating scheme currently used by the banks.
Volume (Year): (2002)
Issue (Month): ()
|Contact details of provider:|| Postal: |
Web page: http://www.bos.frb.org/
More information through EDIRC
|Order Information:|| Email: |
References listed on IDEAS
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.:
- Dimitrios P. Tsomocos, 2003.
"Equilibrium analysis, banking, contagion and financial fragility,"
LSE Research Online Documents on Economics
24826, London School of Economics and Political Science, LSE Library.
- Dimitrios Tsomocos, 2003. "Equilibrium analysis, banking, contagion and financial fragility," FMG Discussion Papers dp450, Financial Markets Group.
- Dimitrios P Tsomocos, 2003. "Equilibrium analysis, banking, contagion and financial fragility," Bank of England working papers 175, Bank of England.
- Dimitrios Tsomocos, 2003. "Equilibrium Analysis, Banking, Contagion and Financial Fragility," OFRC Working Papers Series 2003fe03, Oxford Financial Research Centre.
- Jones, David, 2000. "Emerging problems with the Basel Capital Accord: Regulatory capital arbitrage and related issues," Journal of Banking & Finance, Elsevier, vol. 24(1-2), pages 35-58, January.
- Pamela Nickell & William Perraudin & Simone Varotto, 2001.
"Stability of ratings transitions,"
Bank of England working papers
133, Bank of England.
- Con Keating & Hyun Song Shin & Charles Goodhart & Jon Danielsson, 2001. "An Academic Response to Basel II," FMG Special Papers sp130, Financial Markets Group.
- Jose A. Lopez, 2002.
"The empirical relationship between average asset correlation, firm probability of default and asset size,"
Working Paper Series
2002-05, Federal Reserve Bank of San Francisco.
- Lopez, Jose A., 2004. "The empirical relationship between average asset correlation, firm probability of default, and asset size," Journal of Financial Intermediation, Elsevier, vol. 13(2), pages 265-283, April.
- Martin Shubik, 2000.
"The Theory of Money,"
00-03-021, Santa Fe Institute.
- Sharpe, Steven A, 1990.
" Asymmetric Information, Bank Lending, and Implicit Contracts: A Stylized Model of Customer Relationships,"
Journal of Finance,
American Finance Association, vol. 45(4), pages 1069-87, September.
- Steven A. Sharpe, 1989. "Asymmetric information, bank lending, and implicit contracts: a stylized model of customer relationships," Finance and Economics Discussion Series 70, Board of Governors of the Federal Reserve System (U.S.).
- Andrew G Haldane & Glenn Hoggarth & Victoria Saporta, 2001. "Assessing financial system stability, efficiency and structure at the Bank of England," BIS Papers chapters, in: Bank for International Settlements (ed.), Marrying the macro- and micro-prudential dimensions of financial stability, volume 1, pages 138-159 Bank for International Settlements.
- Philip Lowe & Miguel A. Segoviano, 2002. "Internal ratings, the business cycle and capital requirements: some evidence from an emerging market economy," BIS Working Papers 117, Bank for International Settlements.
- Joe Peek & Eric S. Rosengren, 1996.
"The international transmission of financial shocks: the case of Japan,"
96-1, Federal Reserve Bank of Boston.
- Peek, Joe & Rosengren, Eric S, 1997. "The International Transmission of Financial Shocks: The Case of Japan," American Economic Review, American Economic Association, vol. 87(4), pages 495-505, September.
- Joe Peek & Eric S. Rosengren, 1996. "The International Transmission of Financial Shocks: The Case of Japan," Boston College Working Papers in Economics 357, Boston College Department of Economics.
- Gordy, Michael B., 2000.
"A comparative anatomy of credit risk models,"
Journal of Banking & Finance,
Elsevier, vol. 24(1-2), pages 119-149, January.
- Rajan, Raghuram G, 1994. "Why Bank Credit Policies Fluctuate: A Theory and Some Evidence," The Quarterly Journal of Economics, MIT Press, vol. 109(2), pages 399-441, May.
- Greenbaum, Stuart I. & Kanatas, George & Venezia, Itzhak, 1989. "Equilibrium loan pricing under the bank-client relationship," Journal of Banking & Finance, Elsevier, vol. 13(2), pages 221-235, May.
- Philip Lowe, 2002. "Internal ratings, the business cycle and capital requirements: some evidence from an emerging market economy," FMG Discussion Papers dp428, Financial Markets Group.
- Pradeep Dubey & John Geanakoplos & Martin Shubik, 2000. "Default in a General Equilibrium Model with Incomplete Markets," Cowles Foundation Discussion Papers 1247, Cowles Foundation for Research in Economics, Yale University.
- M. Shubik & D. Tsomocos, 1992. "A strategic market game with a mutual bank with fractional reserves and redemption in gold," Journal of Economics, Springer, vol. 55(2), pages 123-150, June.
- Miguel Angel Segoviano & Philip Lowe, 2002. "Internal ratings, the business cycle, and capital requirements: some evidence from an emerging market economy," Conference Series ; [Proceedings], Federal Reserve Bank of Boston.
- Jackson, Patricia & Perraudin, William & Saporta, Victoria, 2002.
"Regulatory and "economic" solvency standards for internationally active banks,"
Journal of Banking & Finance,
Elsevier, vol. 26(5), pages 953-976, May.
- Patricia Jackson & William Perraudin & Victoria Saporta, 2002. "Regulatory and 'economic' solvency standards for internationally active banks," Bank of England working papers 161, Bank of England.
- Pamela Nickell & William Perraudin & Simone Varotto, 2001. "Ratings versus equity-based credit risk modelling: an empirical analysis," Bank of England working papers 132, Bank of England.
- Joe Peek & Eric S. Rosengren, 1997. "Collateral damage: effects of the Japanese real estate collapse on credit availability and real activity in the United States," Working Papers 97-5, Federal Reserve Bank of Boston.
- 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.
- Estrella, Arturo, 2004. "The cyclical behavior of optimal bank capital," Journal of Banking & Finance, Elsevier, vol. 28(6), pages 1469-1498, June.
- Blum, Jurg & Hellwig, Martin, 1995. "The macroeconomic implications of capital adequacy requirements for banks," European Economic Review, Elsevier, vol. 39(3-4), pages 739-749, April.
- Herring, Richard J, 1999. "Credit Risk and Financial Instability," Oxford Review of Economic Policy, Oxford University Press, vol. 15(3), pages 63-79, Autumn.
When requesting a correction, please mention this item's handle: RePEc:fip:fedbcp:y:2002:x:2. 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: (Catherine Spozio)
If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.
If references are entirely missing, you can add them using this form.
If the full references list an item that is present in RePEc, but the system did not link to it, you can help with this form.
If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your profile, as there may be some citations waiting for confirmation.
Please note that corrections may take a couple of weeks to filter through the various RePEc services.