Capital Adequacy and the Bank Lending Channel: Macroeconomic Implications

Shaw, Ming-fu and Chang, Juin-jen and Chen, Hung-Ju (2012): Capital Adequacy and the Bank Lending Channel: Macroeconomic Implications.

Abstract

This paper develops an analytically tractable dynamic general-equilibrium model with a banking system to examine the macroeconomic implications of capital adequacy requirements. In contrast to the hypothesis of a credit crunch, we find that increasing the strength of bank capital requirements does not necessarily reduce the equilibrium quantity of loans, provided that banks have the option to respond to the capital requirements by accumulating more equity instead of cutting back on lending. Accordingly, we show that there is an inverted-U-shaped relationship between CAR and capital accumulation (and consumption). Furthermore, the optimal capital adequacy ratio for social-welfare maximization is lower than that for capital-accumulation maximization. In accordance with general empirical findings, the capital- accumulation maximizing capital adequacy ratio is procyclical with respect to economic conditions. We also find that monetary policy affects the real macroeconomic activities via the so-called bank lending channel, but the effectiveness of monetary policy is weakened by bank capital requirements.

• Item Type: MPRA Paper
• Language: English
• Keywords: Banking capital regulation; bank lending channel; the loan-deposit rate
• Subjects: E - Macroeconomics and Monetary Economics > E5 - Monetary Policy, Central Banking, and the Supply of Money and Credit; O - Economic Development, Innovation, Technological Change, and Growth > O4 - Economic Growth and Aggregate Productivity

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