Should bank capital regulation be risk sensitive?

Arbeitspapier

We present a simple model to study the risk sensitivity of capital regulation. A banker funds investment with uninsured deposits and costly capital, where capital resolves a moral hazard problem in the banker's choice of risk. Investors are uninformed about investment quality, but a regulator receives a signal about it and imposes minimum capital requirements. With a perfect signal, capital requirements are risk sensitive and achieve the first-best levels of risk and intermediation: safer banks attract cheaper deposit funding and require less capital. With a noisy signal, risk-sensitive capital regulation can implement a separating equilibrium in which low-quality banks do not participate. We show that the degree of risk sensitivity is non-monotone in the precision of the signal and in investment characteristics. Without a signal, a leverage ratio still induces the efficient risk choice but leads to excessive or insufficient intermediation.

Object Details

• Language: Englisch

References and Relationships

• Bibliographic citation: Series: Bank of Canada Staff Working Paper ; No. 2018-48

Classification and Topics

• Classification: Wirtschaft ; Banks; Depository Institutions; Micro Finance Institutions; Mortgages ; Financial Institutions and Services: Government Policy and Regulation
• Subject: Financial institutions ; Financial system regulation and policies

Contributors, Places and Time

• Event: Geistige Schöpfung
• (who): Ahnert, Toni ; Chapman, James ; Wilkins, Carolyn
• Event: Veröffentlichung
• (who): Bank of Canada
• (where): Ottawa
• (when): 2018

Further information

• DOI: doi:10.34989/swp-2018-48
• Handle: http://hdl.handle.net/10419/197901
• Last update: 10.03.2025, 11:42 AM CET