Credit Allocation, Capital Requirements and Output

Esa Jokivuolle, Ilkka Kiema, Timo Vesala
2010 Social Science Research Network  
We show how banks' excessive risk-taking, stemming from informational asymmetries in loan markets, can lead to an excessive output loss when a recession starts. Risk-based capital requirements can alleviate the output loss by reducing excessive risk-taking in 'normal' times. Model simulations suggest that the differentiation of risk-weights in the Basel framework might be further increased in order to take full advantage of the allocational effects of capital requirements. Our analysis also
more » ... r analysis also provides a new rationale for the countercyclical elements of capital requirements.
doi:10.2139/ssrn.1755090 fatcat:sr5fddh7iff3hh7eprkdpuowcu