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Ex Ante Versus Ex Post Regulation of Bank Capital

Author

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  • Arup Daripa

    (Department of Economics, Mathematics & Statistics, Birkbeck)

  • Simone Varotto

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.

Suggested Citation

  • Arup Daripa & Simone Varotto, 2005. "Ex Ante Versus Ex Post Regulation of Bank Capital," Birkbeck Working Papers in Economics and Finance 0518, Birkbeck, Department of Economics, Mathematics & Statistics.
  • Handle: RePEc:bbk:bbkefp:0518
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    References listed on IDEAS

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    Cited by:

    1. Le Pape, Nicolas & Zhao, Kai, 2014. "Horizontal mergers and uncertainty," Economics - The Open-Access, Open-Assessment E-Journal, Kiel Institute for the World Economy (IfW), vol. 8, pages 1-31.
    2. Charles-Olivier Amédée-Manesme & Fabrice Barthélémy, 2018. "Ex-ante real estate Value at Risk calculation method," Annals of Operations Research, Springer, vol. 262(2), pages 257-285, March.
    3. Dalla Pellegrina Lucia & Saraceno Margherita, 2011. "Securities Class Actions: A Helping Hand for Bank Regulators in Trouble?," Review of Law & Economics, De Gruyter, vol. 7(1), pages 214-242, July.

    More about this item

    Keywords

    Ex Post Regulation; Asymmetric Information; Safety Loss; Overprotection Loss; Safety Bias; Basel II.;

    JEL classification:

    • G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation
    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • L51 - Industrial Organization - - Regulation and Industrial Policy - - - Economics of Regulation

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