Bank Capital Requirements, Lending Supply, and Economic Activity: A Scenario Analysis Perspective

Antonio Conti (), Andrea Nobili and Federico M. Signoretti

Journal of Forecasting, 2025, vol. 44, issue 3, 1132-1164

Abstract: We evaluate the relation between bank capital, lending supply, and economic activity using Italian data over 1993–2015, a period which covers three key post‐crisis regulatory and supervisory measures (the Basel III reform, the 2011 European Banking Authority [EBA] stress test, the European Central Bank's [ECB] Comprehensive Assessment, and launch of the Single Supervisory Mechanism—SSM). We quantify the impact of increased bank capital requirements using a novel procedure that recovers the magnitude of the policy measures, relying on scenario analysis and Bayesian VARs with a rich characterization of the banking sector. We document that the EBA and SSM measures unpredictably raised Tier 1 ratio by about 2.5 percentage points, leading to an average reduction in credit to firms and households by 5% and 4%, respectively, and to a decline in real GDP by over 2% and 4%. The Basel III bank capital increase is instead correctly anticipated in out‐of‐sample forecasting. These findings are robust to time‐varying model parameters and consistent with narrative sign restriction techniques.

Date: 2025
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https://doi.org/10.1002/for.3239

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Persistent link: https://EconPapers.repec.org/RePEc:wly:jforec:v:44:y:2025:i:3:p:1132-1164

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