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

  • Chiara Pederzoli

    ()

  • Costanza Torricelli

    ()

  • Dimitrios Tsomocos

    ()

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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File URL: http://hdl.handle.net/10.1007/s10436-009-0128-8
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Article provided by Springer in its journal Annals of Finance.

Volume (Year): 6 (2010)
Issue (Month): 1 (January)
Pages: 33-49

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Handle: RePEc:kap:annfin:v:6:y:2010:i:1:p:33-49
Contact details of provider: Web page: http://www.springerlink.com/link.asp?id=112370

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  1. 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.
  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. Charles Goodhart & Pojanart Sunirand & Dimitrios Tsomocos, 2006. "A model to analyse financial fragility," Economic Theory, Springer, vol. 27(1), pages 107-142, 01.
  4. 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.
  5. 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.
  6. Nickell, Pamela & Perraudin, William & Varotto, Simone, 2000. "Stability of rating transitions," Journal of Banking & Finance, Elsevier, vol. 24(1-2), pages 203-227, January.
  7. Eva Catarineu-Rabell & Patricia Jackson & Dimitrios P. Tsomocos, 2002. "Procyclicality and the New Basel Accord: banks' choice of loan rating system," Conference Series ; [Proceedings], Federal Reserve Bank of Boston.
  8. Repullo, Rafael & Suarez, Javier, 2008. "The Procyclical Effects of Basel II," CEPR Discussion Papers 6862, C.E.P.R. Discussion Papers.
  9. Dimitrios P. Tsomocos, 2003. "Equilibrium Analysis, Banking and Financial Instability," OFRC Working Papers Series 2003fe08, Oxford Financial Research Centre.
  10. Charles Goodhart & Pojanart Sunirand & Dimitrios P. Tsomocos, 2004. "A model to analyse financial fragility: applications," LSE Research Online Documents on Economics 24680, London School of Economics and Political Science, LSE Library.
  11. Jokivuolle , Esa & Vesala, Timo, 2007. "Portfolio effects and efficiency of lending under Basel II," Research Discussion Papers 13/2007, Bank of Finland.
  12. 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.
  13. 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.
  14. Con Keating & Hyun Song Shin & Charles Goodhart & Jon Danielsson, 2001. "An Academic Response to Basel II," FMG Special Papers sp130, Financial Markets Group.
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