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Capital ratios and the Weighted Average Cost of Capital: Evidence from Chilean banks

Author

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  • Cifuentes, Rodrigo
  • Gómez, Tomás
  • Jara, Alejandro

Abstract

This paper finds that an additional percentage point in the ratio of Common Equity Tier 1 (CET1) capital to risk-weighted assets is associated with an increase in the Weighted Average Cost of Capital (WACC) of Chilean banks by a maximum of only 11.7 basis points. This result is found by evaluating the impact of capital ratios on the return on capital and on the return on debt, following alternative empirical strategies which consider both market data and bank balance sheet information. Higher capital ratios decrease the return on banks’ capital – partly because more capital makes banks less risky – in magnitudes similar to those found in the literature for other countries. Second, we study the role of capital in the return of bank debt. We see a strong impact of capital ratios on the return of subordinated debt and no effect on senior debt.

Suggested Citation

  • Cifuentes, Rodrigo & Gómez, Tomás & Jara, Alejandro, 2025. "Capital ratios and the Weighted Average Cost of Capital: Evidence from Chilean banks," Latin American Journal of Central Banking (previously Monetaria), Elsevier, vol. 6(1).
    • Handle: RePEc:eee:lajcba:v:6:y:2025:i:1:s2666143824000255
    DOI: 10.1016/j.latcb.2024.100143
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    More about this item

    Keywords

    Regulatory policies; Capital requirements; Subordinated debt; Basel III;
    All these keywords.

    JEL classification:

    • C23 - Mathematical and Quantitative Methods - - Single Equation Models; Single Variables - - - Models with Panel Data; Spatio-temporal Models
    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • G38 - Financial Economics - - Corporate Finance and Governance - - - Government Policy and Regulation

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