Capital Regulation and Tail Risk

By Enrico Camillo Perotti, Lev Ratnovski, Razvan Vlahu

August 1, 2011

Preview Citation

Format: Chicago

Enrico Camillo Perotti, Lev Ratnovski, and Razvan Vlahu. Capital Regulation and Tail Risk, (USA: International Monetary Fund, 2011) accessed November 8, 2024

Disclaimer: This Working Paper should not be reported as representing the views of the IMF.The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the IMF or IMF policy. Working Papers describe research in progress by the author(s) and are published to elicit comments and to further debate

Summary

The paper studies risk mitigation associated with capital regulation, in a context where banks may choose tail risk asserts. We show that this undermines the traditional result that high capital reduces excess risk-taking driven by limited liability. Moreover, higher capital may have an unintended effect of enabling banks to take more tail risk without the fear of breaching the minimal capital ratio in non-tail risky project realizations. The results are consistent with stylized facts about pre-crisis bank behavior, and suggest implications for the optimal design of capital regulation.

Subject: Bank regulation, Banking, Capital adequacy requirements, Countercyclical capital buffers, Financial crises, Financial regulation and supervision, Tax incentives

Keywords: Adjustment cost, Adjustment effect, Bank capital, Bank regulation, Capital adequacy requirements, Capital ratio, Capital Regulation, Capital requirement, Countercyclical capital buffers, Financial Innovation, Project choice, Recapitalization cost, Recapitalization decision, Risk Management, Risk profile, Tail Risk, WP

Publication Details

Pages:

38
Volume:

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DOI:

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Issue:

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Series:

Working Paper No. 2011/188
Stock No:

WPIEA2011188
ISBN:

9781462308262
ISSN:

1018-5941

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