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Welfare implications of bank capital requirements under dynamic default decisions

Toshiaki Ogawa

Journal of Economic Dynamics and Control, 2022, vol. 138, issue C

Abstract: I study capital requirements and their welfare implications in a dynamic general equilibrium model of banking. The model is characterized by two features. First, banks choose entry and exit, which allows the number of banks change endogenously. Second, since equity issuance is costly, banks precautionarily hold capital buffers against future liquidity shocks. I find that the optimal capital requirement that maximizes social welfare is larger than 3.5%, and the value sensitively depends on the size of utility households derive from deposit holdings. In a special case without any utility from deposit holdings, I obtain welfare implications that are consistent with Corbae and D’Erasmo (2021a).

Keywords: Bank capital requirements; Occasionally binding constraints; Endogenous default; Entry and exit; Heterogeneous bank model (search for similar items in EconPapers)
JEL-codes: E00 G21 G28 (search for similar items in EconPapers)
Date: 2022
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DOI: 10.1016/j.jedc.2022.104360

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Journal of Economic Dynamics and Control is currently edited by J. Bullard, C. Chiarella, H. Dawid, C. H. Hommes, P. Klein and C. Otrok

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