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The benefits and costs of adjusting bank capitalisation: evidence from euro area countries

Author

Listed:
  • Katarzyna Budnik

    (European Central Bank)

  • Gaia Barbic

    (European Central Bank)

  • Giulio Nicoletti

    (European Central Bank)

  • Massimiliano Affinito

    (Banca d’Italia)

  • Fabrizio Venditti

    (Banca d’Italia)

  • Saiffedine Ben Hadj

    (Banque Nationale de Belgique/Nationale Bank van België)

  • Hans Dewachter

    (Banque Nationale de Belgique/Nationale Bank van België)

  • Edouard Chretien

    (Autorité de contrôle prudentiel et de résolution)

  • Clara Isabel González

    (Banco de España)

  • Javier Mencía

    (Banco de España)

  • Jenny Hu

    (De Nederlandsche Bank)

  • Jairo Rivera-Rozo

    (De Nederlandsche Bank)

  • Lauri Jantunen

    (Suomen Panki)

  • Otso Manninen

    (Suomen Panki)

  • Ramona Jimborean

    (Banque de France)

  • Ricardo Martinho

    (Banco de Portugal)

  • Ana Regina Pereira

    (Banco de Portugal)

  • Elena Mousarri

    (Central Bank of Cyprus)

  • Constantinos Trikoupis

    (Central Bank of Cyprus)

  • Laurynas Naruševicius

    (Lietuvos Bankas)

  • Michael O’Grady

    (Central Bank of Ireland)

  • Sofia Velasco

    (Central Bank of Ireland)

  • Selcuk Ozsahin

    (Banca Slovenije)

Abstract

The paper proposes a framework for assessing the impact of system-wide and bank-level capital buffers. The assessment rests on a factor-augmented vector autoregression (FAVAR) model that relates individual bank adjustments to macroeconomic dynamics. We estimate FAVAR models individually for eleven euro area economies and identify structural shocks, which allow us to diagnose key vulnerabilities of national banking systems and estimate short-run economic costs of increasing banks’ capitalisation. On this basis, we run a fullyfledged cost-benefit assessment of an increase in capital buffers. The benefits are related to an increase in bank resilience to adverse shocks. Higher capitalisation allows banks to withstand negative shocks and moderates the reduction of credit to the real economy that ensues in adverse circumstances. The costs relate to transitory credit and output losses that are assessed both on an aggregate and bank level. An increase in capital ratios is shown to have a sharply different impact on credit and economic activity depending on the way banks adjust, i.e. via changes in assets or equity.

Suggested Citation

  • Katarzyna Budnik & Gaia Barbic & Giulio Nicoletti & Massimiliano Affinito & Fabrizio Venditti & Saiffedine Ben Hadj & Hans Dewachter & Edouard Chretien & Clara Isabel González & Javier Mencía & Jenny , 2019. "The benefits and costs of adjusting bank capitalisation: evidence from euro area countries," Working Papers 1923, Banco de España.
  • Handle: RePEc:bde:wpaper:1923
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    References listed on IDEAS

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    2. Kimundi, Gillian, 2024. "Heterogeneity in bank responsiveness to policy and economic shocks: The role of capitalization," KBA Centre for Research on Financial Markets and Policy Working Paper Series 81, Kenya Bankers Association (KBA).

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    More about this item

    Keywords

    FAVAR; capital regulation; cost-benefit analysis; banking system resilience;
    All these keywords.

    JEL classification:

    • E51 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Money Supply; Credit; Money Multipliers
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation

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