Capital requirements and business cycles with credit market imperfections

• Published in: Journal of macroeconomics Vol. 34; no. 3; pp. 687 - 705
• Main Authors: Agénor, P.-R., Alper, K., Pereira da Silva, L.
• Format: Journal Article
• Language: English
• Published: Amsterdam Elsevier Inc 01.09.2012; Elsevier Science Ltd
• Subjects: Basel Accords; Business cycles; Capital requirements; Credit market; Credit market imperfections; Debt repayment; Economic incentives; Keynesian theory; Keynesianism; Loans; Microeconomics; Monetary policy; Monitoring; Procyclicality; Regulation of financial institutions; Studies; E51; Capital requirements; E44; Credit market imperfections; Procyclicality
• ISSN: 0164-0704; 1873-152X
• DOI: 10.1016/j.jmacro.2012.02.007

► Business cycle effects of bank capital regulatory regimes are examined. ► Bank capital increases incentives for banks to monitor borrowers. ► Negative supply shock is simulated. ► Basel II regime may be less procyclical than a Basel I regime. The business cycle effects of bank capital regulatory regimes are examined in a New Keynesian model with credit market imperfections and a cost channel of monetary policy. Bank capital increases incentives for banks to monitor borrowers, thereby raising the repayment probability, and excess capital generates benefits in terms of reduced regulatory scrutiny. Basel I- and Basel II-type regulatory regimes are defined, and the model is calibrated for a middle-income country. Simulations of a supply shock show that, depending on the elasticity that relates the repayment probability to the bank capital–loan ratio, the Basel II regime may be less procyclical than a Basel I regime.