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Bank Capital Regulation with an Opportunistic Rating Agency

Matthias Efing

No 12-19, Swiss Finance Institute Research Paper Series from Swiss Finance Institute

Abstract: This paper models the strategic interaction between a rating agency, a bank and a bank regulator who lacks information about bank asset risk. The regulator can either (1) make bank capital requirements contingent on credit ratings; or (2) set rating independent capital requirements. Truthful ratings provide efficiency gains because they allow the regulator to constrain high risk bank investment without simultaneously reducing overall investment volume. However, if collusion between the rating agency and the bank corrupts rating quality, rating independent regulation enhances welfare. The welfare benefits are largest if regulators maintain rating contingent capital requirements and discipline rating agencies.

Keywords: Bank Regulation; Lucas Critique; Collusion; Ratings Inflation; Risk-shifting (search for similar items in EconPapers)
JEL-codes: D82 G21 G24 G28 (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-ban and nep-cba
Date: 2012-05
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http://ssrn.com/abstract=2050289 (application/pdf)

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Working Paper: Bank Capital Regulation with an Opportunistic Rating Agency (2013) Downloads
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Persistent link: https://EconPapers.repec.org/RePEc:chf:rpseri:rp1219

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