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Bank Capital in the Short and in the Long Run

Caterina Mendicino, Kalin Nikolov (), Javier Suarez and Dominik Supera
Additional contact information
Caterina Mendicino: European Central Bank, https://www.ecb.europa.eu/
Dominik Supera: CEMFI, Centro de Estudios Monetarios y Financieros, https://www.wharton.upenn.edu/

Working Papers from CEMFI

Abstract: How far should capital requirements be raised in order to ensure a strong and resilient banking system without imposing undue costs on the real economy? Capital requirement increases make banks safer and are beneficial in the long run but carry transition costs because their imposition reduces aggregate demand on impact. Under accommodative monetary policy, increasing capital requirements addresses financial stability risks without imposing large transition costs on the economy. In contrast, when the policy rate hits the lower bound, monetary policy loses the ability to dampen the effects of the capital requirement increase on the real economy. The long-run benefits of higher capital requirements are larger and the transition costs are smaller when the risk that causes bank failure is high.

Keywords: Macroprudential policy; bank fragility; financial frictions; default risk; effective lower bound; transition dynamics. (search for similar items in EconPapers)
JEL-codes: E3 E44 G01 G21 (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-ban, nep-cba, nep-dge and nep-mac
Date: 2018-08
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