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Financial Regulation in a Quantitative Model of the Modern Banking System

Author

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  • J Begenau
  • T Landvoigt

Abstract

How does the shadow banking system respond to changes in capital regulation of commercial banks? We propose a quantitative general equilibrium model with regulated and unregulated banks to study the unintended consequences of regulation. Tighter capital requirements for regulated banks cause higher convenience yield on debt of all banks, leading to higher shadow bank leverage and a larger shadow banking sector. At the same time, tighter regulation eliminates the subsidies to commercial banks from deposit insurance, reducing the competitive pressures on shadow banks to take risks. The net effect is a safer financial system with more shadow banking. Calibrating the model to data on financial institutions in the US, the optimal capital requirement is around 16.

Suggested Citation

  • J Begenau & T Landvoigt, 2022. "Financial Regulation in a Quantitative Model of the Modern Banking System," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 89(4), pages 1748-1784.
    • Handle: RePEc:oup:restud:v:89:y:2022:i:4:p:1748-1784.
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    File URL: http://hdl.handle.net/10.1093/restud/rdab088
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    Citations

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    Cited by:

    1. Greg Buchak & Gregor Matvos & Tomasz Piskorski & Amit Seru, 2024. "Aggregate Lending and Modern Financial Intermediation: Why Bank Balance Sheet Models Are Miscalibrated," NBER Macroeconomics Annual, University of Chicago Press, vol. 38(1), pages 239-287.
    2. Dario Bonciani & David Gauthier & Derrick Kanngiesser, 2023. "Slow Recoveries, Endogenous Growth and Macro-prudential Policy," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 51, pages 698-715, December.
    3. Huang, Chao & Moreira, Fernando & Archibald, Thomas W., 2024. "Should Basel-style liquidity requirements be set countercyclically? Evidence from a numerical analysis," International Review of Financial Analysis, Elsevier, vol. 95(PB).
    4. 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.
    5. Jiang, Erica Xuewei & Matvos, Gregor & Piskorski, Tomasz & Seru, Amit, 2024. "Monetary tightening and U.S. bank fragility in 2023: Mark-to-market losses and uninsured depositor runs?," Journal of Financial Economics, Elsevier, vol. 159(C).
    6. Ahmad Peivandi & Mohammad Abbas Rezaei & Ajay Subramanian, 2023. "Optimal design of bank regulation under aggregate risk," Mathematics and Financial Economics, Springer, volume 17, number 2, February.
    7. Hodula, Martin & Ngo, Ngoc Anh, 2024. "Does macroprudential policy leak? Evidence from shadow bank lending in EU countries," Economic Modelling, Elsevier, vol. 132(C).
    8. Goodhart, Charles A.E. & Tsomocos, Dimitrios P. & Wang, Xuan, 2023. "Bank credit, inflation, and default risks over an infinite horizon," Journal of Financial Stability, Elsevier, vol. 67(C).
    9. Biancini, Sara & Verdier, Marianne, 2023. "Bank-platform competition in the credit market," International Journal of Industrial Organization, Elsevier, vol. 91(C).
    10. Krenz, Johanna & Verma, Akhilesh K, 2023. "A leaky pipeline: Macroprudential policy shocks, non-bank financial intermediation and systemic risk in Europe," WiSo-HH Working Paper Series 79, University of Hamburg, Faculty of Business, Economics and Social Sciences, WISO Research Laboratory.
    11. Mary Chen & Seung Jung Lee & Daniel Neuhann & Farzad Saidi, 2024. "Less Bank Regulation, More Non-Bank Lending," ECONtribute Discussion Papers Series 303, University of Bonn and University of Cologne, Germany.
    12. Gebauer, Stefan & Mazelis, Falk, 2023. "Macroprudential regulation and leakage to the shadow banking sector," European Economic Review, Elsevier, vol. 154(C).
    13. Olivier de Bandt & Bora Durdu & Hibiki Ichiue & Yasin Mimir & Jolan Mohimont & Kalin Nikolov & Sigrid Roehrs & Jean-Guillaume Sahuc & Valerio Scalone & Michael Straughan, 2024. "Assessing the Impact of Basel III: Review of Transmission Channels and Insights from Policy Models," International Journal of Central Banking, International Journal of Central Banking, vol. 20(1), pages 1-52, February.
    14. Viral V. Acharya & Katharina Bergant & Matteo Crosignani & Tim Eisert & Fergal Mccann, 2022. "The Anatomy of the Transmission of Macroprudential Policies," Journal of Finance, American Finance Association, vol. 77(5), pages 2533-2575, October.
    15. Jiang, Bo, 2024. "The real effect of shadow banking regulation: Evidence from China," Emerging Markets Review, Elsevier, vol. 59(C).
    16. Arseneau, David & Brang, Grace & Darst, Matt & Faber, Jacob & Rappoport, David & Vardoulakis, Alexandros, 2023. "A Macroprudential Perspective on the Regulatory Boundaries of US Financial Assets," Journal of Financial Crises, Yale Program on Financial Stability (YPFS), vol. 5(1), pages 1-24, July.
    17. Jondeau, Eric & Sahuc, Jean-Guillaume, 2022. "Bank capital shortfall in the euro area," Journal of Financial Stability, Elsevier, vol. 62(C).
    18. Michael S. Barr, 2022. "Why Bank Capital Matters: At the American Enterprise Institute, Washington, D.C. (virtual) December 1st 2022," Speech 95822, Board of Governors of the Federal Reserve System (U.S.).
    19. He, Dongwei & Wu, Yifan & Wang, Yifan & Xing, Xueyan, 2023. "Prudential regulation and bank performance: Evidence from China," Pacific-Basin Finance Journal, Elsevier, vol. 82(C).
    20. Ji Huang & Zongbo Huang & Xiang Shao, 2023. "The Risk of Implicit Guarantees: Evidence from Shadow Banks in China," Review of Finance, European Finance Association, vol. 27(4), pages 1521-1544.
    21. Charles M. Kahn & Ahyan Panjwani & João A. C. Santos, 2024. "Insurance, Weather, and Financial Stability," Staff Reports 1107, Federal Reserve Bank of New York.
    22. Mary Chen & Seung Jung Lee & Daniel Neuhann & Farzad Saidi, 2023. "Less Bank Regulation, More Non-Bank Lending," Finance and Economics Discussion Series 2023-026, Board of Governors of the Federal Reserve System (U.S.).

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