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Basel III capital surcharges for G-SIBs fail to control systemic risk and can cause pro-cyclical side effects

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  • Sebastian Poledna
  • Olaf Bochmann
  • Stefan Thurner

Abstract

In addition to constraining bilateral exposures of financial institutions, there are essentially two options for future financial regulation of systemic risk (SR): First, financial regulation could attempt to reduce the financial fragility of global or domestic systemically important financial institutions (G-SIBs or D-SIBs), as for instance proposed in Basel III. Second, future financial regulation could attempt strengthening the financial system as a whole. This can be achieved by re-shaping the topology of financial networks. We use an agent-based model (ABM) of a financial system and the real economy to study and compare the consequences of these two options. By conducting three "computer experiments" with the ABM we find that re-shaping financial networks is more effective and efficient than reducing leverage. Capital surcharges for G-SIBs can reduce SR, but must be larger than those specified in Basel III in order to have a measurable impact. This can cause a loss of efficiency. Basel III capital surcharges for G-SIBs can have pro-cyclical side effects.

Suggested Citation

  • Sebastian Poledna & Olaf Bochmann & Stefan Thurner, 2016. "Basel III capital surcharges for G-SIBs fail to control systemic risk and can cause pro-cyclical side effects," Papers 1602.03505, arXiv.org.
    • Handle: RePEc:arx:papers:1602.03505
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