A Static Capital Buffer is Hard To Beat

Matthew Canzoneri, Behzad Diba, Luca Guerrieri and Arsenii Mishin

No 2026-042, Finance and Economics Discussion Series from Board of Governors of the Federal Reserve System (U.S.)

Abstract: In a model with endogenous risk-taking, deposit insurance and limited liability may lead banks to make risky loans that are socially inefficient. Capital requirements can prevent excessive risk-taking at the cost of reducing liquidity-producing bank deposits. A policy that sets capital requirements just high enough to prevent excessive risktaking will move capital requirements pro-, counter-, or a-cyclically depending on the shock source. However, such a policy requires full knowledge of all the shocks hitting the economy and is not implementable. Simple rules that respond to cyclical conditions—in line with Basel III guidance—perform poorly, whereas a small static capital buffer can do much better.

Keywords: banks; capital requirements; endogenous risk-taking; crises (search for similar items in EconPapers)
JEL-codes: C54 E13 G21 (search for similar items in EconPapers)
Pages: 92 p.
Date: 2026-06-22
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Persistent link: https://EconPapers.repec.org/RePEc:fip:fedgfe:103442

DOI: 10.17016/FEDS.2026.042

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