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Modelling the Impact of New Capital Regulations on Bank Profitability

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  • Swamy, Vighneswara

Abstract

This study models the impact of new capital regulations proposed under Basel III on bank profitability by constructing a stylized representative bank’s financial statements. We show that the higher cost associated with a one-percentage increase in the capital ratio can be recovered by increasing lending spreads. The results indicate that in the case of scheduled commercial banks, one-percentage point increase in capital ratio can be recovered by increasing the bank lending spread by 31 basis points and would go upto an extent of 100 basis points for six-percentage point increase assuming that the risk weighted assets are unchanged. We also provide the estimations for the scenarios of changes in risk weighted assets, changes in return on equity (ROE) and the cost of debt.

Suggested Citation

  • Swamy, Vighneswara, 2014. "Modelling the Impact of New Capital Regulations on Bank Profitability," MPRA Paper 58298, University Library of Munich, Germany.
    • Handle: RePEc:pra:mprapa:58298
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    1. Ndari Suryaningsih & Tevy Chawwa & Reni Indriani, 2015. "The Impact Of An Increase In Capital Adequacy Regulation On The Interest Rate Spread Of Banks Using Accounting-Based Analysis," Working Papers WP/5/2015, Bank Indonesia.

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    JEL classification:

    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy
    • E51 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Money Supply; Credit; Money Multipliers
    • E61 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Policy Objectives; Policy Designs and Consistency; Policy Coordination
    • G2 - Financial Economics - - Financial Institutions and Services
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation

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