The Cyclical Effects of the Basel II Capital Requirements

Posted: 25 Jul 2008

Abstract

Capital requirements play a key role in the supervision and regulation of banks. The Basel Committee on Banking Supervision is in the process of changing the current framework by introducing risk sensitive capital charges. Some fear that this will unduly increase the volatility of regulatory capital. Furthermore, by limiting the banks' ability to lend, capital requirements may exacerbate an economic downturn. The paper examines the problem of capital-induced lending cycles and their pro-cyclical effect on the macroeconomy in greater detail. It finds that the capital buffer that banks hold on top of the required minimum capital plays a crucial role in mitigating the impact of the volatility of capital requirements.

Keywords: minimum capital requirements, regulatory capital, economic capital, capital buffer

JEL Classification: E32, E44, G21

Suggested Citation

Heid, Frank, The Cyclical Effects of the Basel II Capital Requirements. Journal of Banking and Finance, Vol. 31, No. 12, pp. 3885-3900, December 2007, Available at SSRN: https://ssrn.com/abstract=973634

Frank Heid (Contact Author)

Deutsche Bundesbank ( email )

Wilhelm-Epstein-Str. 14
Frankfurt/Main, 60431
Germany

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