Capital Requirements, Risk Choice, and Liquidity Provision in a Business Cycle Model

Juliane M. Begenau ()
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Juliane M. Begenau: Harvard Business School, Finance Unit

No 15-072, Harvard Business School Working Papers from Harvard Business School

Abstract: This paper develops a quantitative dynamic general equilibrium model in which households' preferences for safe and liquid assets constitute a violation of Modigliani and Miller. I show that the scarcity of these coveted assets created by increased bank capital requirements can reduce overall bank funding costs and increase bank lending. I quantify this mechanism in a two-sector business cycle model featuring a banking sector that provides liquidity and has excessive risk-taking incentives. Under reasonable parametrizations, the marginal benefit of higher capital requirements related to this channel significantly exceeds the marginal cost, indicating that US capital requirements have been sub-optimally low.

Keywords: Capital Requirements; Bank Lending; Safe Assets; Macro-Finance (search for similar items in EconPapers)
JEL-codes: E32 E41 E51 G21 G28 (search for similar items in EconPapers)
Pages: 58 pages
Date: 2015-03, Revised 2016-09
New Economics Papers: this item is included in nep-ban, nep-dge, nep-ifn and nep-mac
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (22)

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Persistent link: https://EconPapers.repec.org/RePEc:hbs:wpaper:15-072

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