Problem Statement


Capital adequacy regulation for banks may reinforce macroeconomic fluctuations: If negative shocks to aggregate demand reduce the ability of firms to service their debts to banks, reduction in debt service lowers bank equity because of capital adequacy requirements and may in turn reduces bank lending and industry investment. There looks at banking crises in the developing world including macroeconomic and supervisory factors. It discusses policy options, drawing on actual experience in developing and developed economies. Thus, testing how active management of bank credit risk exposure through the loan sales market affects capital structure, lending, profits as banks that rebalance their loan portfolio exposures by both buying and selling loans that is, banks that use the loan sales market for risk management purposes rather than to alter their holdings of loans hold less capital than other banks; they also make more risky loans as a percentage of total assets than other banks. Holding size, leverage and lending activities constant, banks active in the loan sales market have lower risk and higher profits than other banks.


Aside, banks that improve their ability to manage credit risk may operate with greater leverage and may lend more of their assets to risky borrower, benefits of advances in risk management in banking may be greater credit availability, rather than reduced risk in the banking system. The merit of international convergence of bank capital requirements in the presence of divergent closure policies of different central banks can be examined. The lack of complementary variation between minimum bank capital requirements and regulatory forbearance leads to spillover from more forbearing to less forbearing economies and reduces the competitive advantage of banks in less forbearing economies. Linking the central bank’s forbearance to its alignment with domestic bank owners, it is shown that in equilibrium; regression toward the worst closure policy may result: The bank of initially less forbearing economies adopt greater forbearance, adjustments might have been made by partial recognition of unrealized stock losses and expected loan losses, efforts to increase capital in ways that effectively reduced risk exposure seemed to dominate the response to strengthened capital requirements. The analysis may suggest the advisability of supplementing risk-based capital requirements with leverage restrictions raises the question of whether percent minimum ratio of capital accord is sufficient for banks. Such impact does not obtain with either risk-based capital requirements or nonbinding deposit rate ceilings, but only the former are always effective in controlling risk-shifting incentives.


Persuading those who think that capital requirements are worth studying that it is important to pause a moment, abstracting from all that has been done, to delineate a set of fundamental principles for future work on capital requirements. It seems important, at least from time to time, to expand the focus of the analysis of bank capital. If only narrow technical questions were ever posed, it would be difficult to address the broader issues with a satisfactory level of confidence in the results. Thus, the methodology will be somewhat unusual in the context of standard economics. The approach is empirical and deductive, but is not based explicitly on hypothetical microeconomic modeling, which is readily available, identifying useful features of capital requirements, past and present, as means of establishing criteria that researchers would find desirable in subsequent capital regimes.


The minimum capital requirements have been successful to the extent that they have reflected these sorts of large first-order exposure. The concept of exposure is distinct from that of risk. Exposure is not defined as corresponding to any particular type of risk, but rather as a measure of the aggregate value that is subject to risks in general. For instance, the face value of a debt instrument may provide good basic measure of exposure. Nevertheless, range of values involved in those differences is frequently of second order as compared with the basic exposure of the instrument. Exposure is calculated by means of well defined rules that are straightforward and represent overall level of risk. Poorly functioning banking systems impede economic progress, exacerbate poverty and destabilize economies. Furthermore, there have been an unprecedented number of disruptive banking crises in recent decades. There is no evidence that successful practices in the United States, for example, will succeed in countries with different institutional and political environments. There is no evidence that each regulatory and supervisory practice can be considered as part of an extensive checklist of desirable best practices in which more checks are better than fewer as opposed to considering regulation and supervision as reflecting broad views about the role of government in society.



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