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Capital Regulation, Liquidity Requirements and Taxation in a Dynamic Model of Banking

G. Di Nicolo, Andrea Gamba and Marcella Lucchetta ()

No 2011-090, Discussion Paper from Tilburg University, Center for Economic Research

Abstract: This paper formulates a dynamic model of a bank exposed to both credit and liquidity risk, which can resolve financial distress in three costly forms: fire sales, bond issuance and equity issuance. We use the model to analyze the impact of capital regulation, liquidity requirements and taxation on banks' optimal policies and metrics of efficiency of intermediation and social value. We obtain three main results. First, mild capital requirements increase bank lending, bank efficiency and social value relative to an unregulated bank, but these benefits turn into costs if capital requirements are too stringent. Second, liquidity requirements reduce bank lending, efficiency and social value significantly, they nullify the benifits of mild capital requirements, and their private and social costs increase monotonically with their stringency. Third, increases in corporate income and bank liabilities taxes reduce bank lending, bank effciency and social value, with tax receipts increasing with the former but decreasing with the latter. Moreover, the effects of an increase in both forms of taxation are dampened if they are jointly implemented with increases in capital and liquidity requirements.

Keywords: Capital requirements; liquidity requirements; taxation of liabilities. JEL Classifications (search for similar items in EconPapers)
Date: 2011
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Related works:
Working Paper: Capital Regulation, Liquidity Requirements and Taxation in a Dynamic Model of Banking (2012) Downloads
Working Paper: Capital Regulation, Liquidity Requirements and Taxation in a Dynamic Model of Banking (2012) Downloads
Working Paper: Capital regulation, liquidity requirements and taxation in a dynamic model of banking (2012) Downloads
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