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Ex ante capital position, changes in the different components of regulatory capital and bank risk

Ex ante capital position, changes in the different components of regulatory capital and bank risk We investigate the impact of changes in capital of European banks on their risk-taking behaviour from 1992 to 2006, a time period covering the Basel I capital requirements. We specifically focus on the initial level and type of regulatory capital banks hold. First, we assume that risk changes depend on banks’ ex ante regulatory capital position. Second, we consider the impact of an increase in each component of regulatory capital on banks’ risk changes. We find that, for highly capitalized, adequately capitalized and strongly undercapitalized banks, an increase in equity or in subordinated debt positively affects risk. Moderately undercapitalized banks tend to invest in less risky assets when their equity ratio increases but not when they improve their capital position by extending hybrid capital or subordinated debt. On the whole, our conclusions support the need to implement more explicit thresholds to classify European banks according to their capital ratios but also to clearly distinguish pure equity from hybrid and subordinated instruments. http://www.deepdyve.com/assets/images/DeepDyve-Logo-lg.png Applied Economics Taylor & Francis

Ex ante capital position, changes in the different components of regulatory capital and bank risk

Applied Economics , Volume 45 (34): 26 – Dec 1, 2013
26 pages

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References (58)

Publisher
Taylor & Francis
Copyright
Copyright Taylor & Francis
ISSN
1466-4283
eISSN
9999-7004
DOI
10.1080/00036846.2013.804166
Publisher site
See Article on Publisher Site

Abstract

We investigate the impact of changes in capital of European banks on their risk-taking behaviour from 1992 to 2006, a time period covering the Basel I capital requirements. We specifically focus on the initial level and type of regulatory capital banks hold. First, we assume that risk changes depend on banks’ ex ante regulatory capital position. Second, we consider the impact of an increase in each component of regulatory capital on banks’ risk changes. We find that, for highly capitalized, adequately capitalized and strongly undercapitalized banks, an increase in equity or in subordinated debt positively affects risk. Moderately undercapitalized banks tend to invest in less risky assets when their equity ratio increases but not when they improve their capital position by extending hybrid capital or subordinated debt. On the whole, our conclusions support the need to implement more explicit thresholds to classify European banks according to their capital ratios but also to clearly distinguish pure equity from hybrid and subordinated instruments.

Journal

Applied EconomicsTaylor & Francis

Published: Dec 1, 2013

Keywords: bank risk; bank capital; capital regulation; European banks; G21; G28

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