The Effects of Countercyclical Capital Buffers on Macroeconomic and Financial Stability

Jorge Pozo

No 2020-012, Working Papers from Banco Central de Reserva del Perú

Abstract: We quantitatively study the effectiveness of several forms of countercyclical capital buffers on promoting macroeconomic and financial stability. To do this we introduce banks and a regulatory capital requirement rule to an open economy DSGE model. The capital requirement consists of a fixed part and a countercyclical part. We find that the tighter fixed capital requirements, the better able banks are to handle a financial crisis, but these also reduce long-term consumption and welfare. More importantly, countercyclical buffers that respond to deviation of the observed credit to GDP ratio from its long-term value, or to percentage deviation of the observed credit (or GDP) from its long-term value improve macroeconomic and financial stability and increase welfare. Being forward looking does not pay off. Interestingly, when buffers respond to percentage deviation of asset prices from their long-term values or to credit (or GDP) growth, macroeconomic and financial stability are negatively affected.

Keywords: Capital requirements; countercyclical buffers; financial stability; macroeconomic stability. (search for similar items in EconPapers)
JEL-codes: E32 G01 G21 G28 (search for similar items in EconPapers)
Date: 2020-10
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Persistent link: https://EconPapers.repec.org/RePEc:rbp:wpaper:2020-012

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