Banking-on-the-Average Rules

Hans Gersbach and Volker Hahn

No 09/107, CER-ETH Economics working paper series from CER-ETH - Center of Economic Research (CER-ETH) at ETH Zurich

Abstract: In this paper, we argue for a regulatory framework under which a bank’s required level of equity capital depends on the equity capital of its peers. Such bankingon- the-average rules are transparent and could also be combined with the current regulatory framework. In addition, we argue that banking-on-the-average rules ensure the build-up of bank equity capitals in booms and thus avoid excessive leverage. Prudent banks can impose prudency on other banks. In a simple model of a banking system, we show that a banking-on-the-average framework can deliver the socially optimal solution because it induces banks to abstain from gambling. Moreover, it alleviates socially harmful consequences of conventional equity-capital rules, which may induce banks to excessively cut back on lending or liquidate desirable long-term investment projects in downturns.

Keywords: banking on the average; equity-capital requirements; banking system; banking crisis (search for similar items in EconPapers)
JEL-codes: G21 G28 (search for similar items in EconPapers)
Pages: 22 pages
Date: 2009-03
New Economics Papers: this item is included in nep-ban, nep-cba, nep-reg and nep-rmg
References: Add references at CitEc
Citations: View citations in EconPapers (6)

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Related works:
Working Paper: Banking-on-the-Average Rules (2010)
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