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Bank Capital, Liquidity and Systemic Risk

We analyze the impact of capital adequacy regulation on bank insolvency and aggregate investment. We develop a model of the banking system that is characterized by the interaction of many heterogeneous banks with the real sector, interbank credit relations as a consequence of bank liquidity management and an insolvency mechanism. This allows us to study the impact of capital adequacy regulation on systemic risk. In particular we can analyze the impact of regulation on contagious defaults arising from mutual credit relations. We show that the impact of capital adequacy on systemic stability is ambiguous and that systemic risk might actually increase as a consequence of imposing capital constraints on banks. Furthermore we analyze the indirect consequences of capital adequacy regulation that are transmitted to the real economy by their impact on equilibrium interbank rates and thus the opportunity costs of liquidity within the banking system.

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File URL: http://www.oenb.at/dms/oenb/Publikationen/Volkswirtschaft/Working-Papers/2004/Working-Paper-87/fullversion/wp87_1__tcm16-9846.pdf
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Paper provided by Oesterreichische Nationalbank (Austrian Central Bank) in its series Working Papers with number 87.

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Length: 49
Date of creation: 03 May 2004
Date of revision:
Handle: RePEc:onb:oenbwp:87
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  1. 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.
  2. Charles A.E. Goodhart & Pojanart Sunirand & Dimitrios P. Tsomocos, 2003. "A Model to Analyse Financial Fragility," OFRC Working Papers Series 2003fe13, Oxford Financial Research Centre.
  3. Helmut Elsinger & Alfred Lehar & Martin Summer, 2006. "Risk Assessment for Banking Systems," Management Science, INFORMS, vol. 52(9), pages 1301-1314, September.
  4. Gary Gorton & Andrew Winton, . "Bank Capital Regulation in General Equilibrium," Rodney L. White Center for Financial Research Working Papers 17-95, Wharton School Rodney L. White Center for Financial Research.
  5. Hoshi, Takeo & Kashyap, Anil & Scharfstein, David, 1991. "Corporate Structure, Liquidity, and Investment: Evidence from Japanese Industrial Groups," The Quarterly Journal of Economics, MIT Press, vol. 106(1), pages 33-60, February.
  6. Xavier Freixas & Jean-Charles Rochet, 1997. "Microeconomics of Banking," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262061937, June.
  7. Larry Eisenberg & Thomas H. Noe, 2001. "Systemic Risk in Financial Systems," Management Science, INFORMS, vol. 47(2), pages 236-249, February.
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