Do reserve requirements reduce the risk of bank failure?
MPRA Paper from University Library of Munich, Germany
There is an increasing literature proposing reserve requirements for financial stability. This study assesses their effects on the probability of bank failure and compares them to those of capital requirements. To this purpose a banking model is considered that is subject to legal reserve requirements. In general, higher reserve requirements promote risk-taking as either borrowers or banks have an incentive to choose riskier assets, so banks' probability of failure rises. Borrowers' moral hazard problem augments the adverse effects. They are mitigated when allowing for imperfectly correlated loan-default as higher interest revenues from non-defaulting loans curb losses from defaulting loans.
Keywords: Reserve requirements; liquidity regulation; capital requirements; bank failure; default correlation (search for similar items in EconPapers)
JEL-codes: E43 E58 G21 G28 (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-ban, nep-cba, nep-mac and nep-rmg
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Persistent link: https://EconPapers.repec.org/RePEc:pra:mprapa:95634
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