Working Paper: CEPR ID: DP8304
Authors: Rafael Repullo; Jess Saurina
Abstract: We provide a critical assessment of the countercyclical capital buffer in the new regulatory framework known as Basel III, which is based on the deviation of the credit-to-GDP ratio with respect to its trend. We argue that a mechanical application of the buffer would tend to reduce capital requirements when GDP growth is high and increase them when GDP growth is low, so it may end up exacerbating the inherent pro-cyclicality of risk-sensitive bank capital regulation. We also note that Basel III does not address pro-cyclicality in any other way. We propose a fully rule-based smoothing of minimum capital requirements based on GDP growth.
Keywords: bank capital regulation; Basel III; business cycles; credit crunch; procyclicality
JEL Codes: E32; G28
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| credit-to-GDP gap (F65) | GDP growth (O49) |
| GDP growth (O49) | capital requirements (G32) |
| credit-to-GDP gap (F65) | capital requirements (G32) |
| mechanical application of countercyclical capital buffer (E44) | procyclicality of capital regulation (G18) |