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Do Bank Capital Requirements Amplify Business Cycles? Bridging The Gap Between Theory And Empirics

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  • Aliaga-Díaz, Roger
  • Olivero, María Pía

Abstract

In this paper we study the role of bank capital adequacy requirements in the transmission of aggregate productivity shocks. We identify a gap between the empirical and the theoretical work that studies the “credit crunch” effects of these requirements, and how they can work as a financial accelerator that amplifies business cycles. This gap arises because the empirical work faces some difficulties in identifying the effects of capital requirements, whereas the theory still lacks a structural framework that can address these difficulties. We bridge that gap by providing a general equilibrium theoretical framework that allows us to study this financial accelerator. The main insight we obtain is that the “credit crunch” and financial accelerator effects are rather weak, which confirms the findings of existing empirical work. Additionally, by developing a structural framework, we are able to provide an explanation for this result.

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  • Aliaga-Díaz, Roger & Olivero, María Pía, 2012. "Do Bank Capital Requirements Amplify Business Cycles? Bridging The Gap Between Theory And Empirics," Macroeconomic Dynamics, Cambridge University Press, vol. 16(3), pages 358-395, June.
    • Handle: RePEc:cup:macdyn:v:16:y:2012:i:03:p:358-395_00
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    Citations

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    Cited by:

    1. Brzoza-Brzezina, Michał & Kolasa, Marcin & Makarski, Krzysztof, 2015. "A penalty function approach to occasionally binding credit constraints," Economic Modelling, Elsevier, vol. 51(C), pages 315-327.
    2. Dean Corbae & Pablo D'Erasmo, 2014. "Capital requirements in a quantitative model of banking industry dynamics," Working Papers 14-13, Federal Reserve Bank of Philadelphia.
    3. Alejandro Torres-García & Carlos A. Ballesteros-Ruiz & Alfredo Villca-Condori, 2020. "Bank procyclicality, business cycles and capital requirements," Journal of Banking Regulation, Palgrave Macmillan, vol. 21(2), pages 152-169, June.
    4. Paolo Angelini & Laurent Clerc & Vasco Cúrdia & Leonardo Gambacorta & Andrea Gerali & Alberto Locarno & Roberto Motto & Werner Roeger & Skander Van den Heuvel & Jan Vlček, 2015. "Basel III: Long-term Impact on Economic Performance and Fluctuations," Manchester School, University of Manchester, vol. 83(2), pages 217-251, March.
    5. Leonardo Gambacorta & Sudipto Karmakar, 2018. "Leverage and Risk-Weighted Capital Requirements," International Journal of Central Banking, International Journal of Central Banking, vol. 14(5), pages 153-191, December.
    6. Corbae, Dean & D’Erasmo, Pablo, 2020. "Rising bank concentration," Journal of Economic Dynamics and Control, Elsevier, vol. 115(C).
    7. Uluc Aysun, 2013. "Bank size and macroeconomic shock transmission: Are there economic volatility gains from shrinking large, too big to fail banks?," Working Papers 2013-02, University of Central Florida, Department of Economics.
    8. Lorenza Rossi, 2016. "Productivity Shocks and Uncertainty Shocks in a Model with Endogenous Firms Exit and Inefficient Banks," DEM Working Papers Series 128, University of Pavia, Department of Economics and Management.
    9. Gulan, Adam & Jokivuolle, Esa & Verona, Fabio, 2022. "Optimal bank capital requirements: What do the macroeconomic models say?," BoF Economics Review 2/2022, Bank of Finland.
    10. Demetris Koursaros & Nektarios Michail & Niki Papadopoulou & Christos Savva, 2018. "To Create or to Redistribute? That is the Question," Working Papers 2018-5, Central Bank of Cyprus.
    11. Paul E. Orzechowski, 2019. "The bank capital channel and bank profits," Review of Financial Economics, John Wiley & Sons, vol. 37(3), pages 372-388, July.
    12. Lorenza Rossi, 2015. "Endogenous Firms' ?Exit, Inefficient Banks and Business Cycle Dynamics," Working Papers LuissLab 15117, Dipartimento di Economia e Finanza, LUISS Guido Carli.
    13. Dean Corbae & Pablo D'Erasmo, 2021. "Capital Buffers in a Quantitative Model of Banking Industry Dynamics," Econometrica, Econometric Society, vol. 89(6), pages 2975-3023, November.
    14. Rossi, Lorenza, 2019. "The overshooting of firms’ destruction, banks and productivity shocks," European Economic Review, Elsevier, vol. 113(C), pages 136-155.
    15. Dean Corbae & Pablo D'Erasmo, 2021. "Capital Buffers in a Quantitative Model of Banking Industry Dynamics," Working Papers 21-24, Federal Reserve Bank of Philadelphia.
    16. Roger Aliaga‐Díaz & María Pía Olivero & Andrew Powell, 2018. "Monetary Policy And Anti‐Cyclical Bank Capital Regulation," Economic Inquiry, Western Economic Association International, vol. 56(2), pages 837-858, April.
    17. George J. Bratsiotis & William J. Tayler & Roy Zilberman, 2014. "Financial Regulation, Credit and Liquidity Policy and the Business Cycle," Centre for Growth and Business Cycle Research Discussion Paper Series 196, Economics, The University of Manchester.
    18. Casselmann, Farina, 2013. "Financial services regulation in the wake of the crisis: The Capital Requirements Directive IV and the Capital Requirements Regulation," IPE Working Papers 18/2013, Berlin School of Economics and Law, Institute for International Political Economy (IPE).
    19. Valencia, Fabián, 2014. "Banks' Precautionary Capital And Credit Crunches," Macroeconomic Dynamics, Cambridge University Press, vol. 18(8), pages 1726-1750, December.

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