Working Papers

“Sectoral Credit Allocation, Capital Requirements and Financial Stability” Download paper here

Abstract: Banking crises are often preceded by large expansions in residential real estate credit. However, banks’ prudential regulation imposes typically lower minimum equity-capital funding requirements on residential real estate lending than on corporate lending. This paper quantifies the consequences of regulatory designs that fail to take into account the macroprudential dimension of the growth in real estate lending. I develop a DSGE model in which banks intermediate real estate loans to households and corporate loans to firms and where abnormally high defaults in either of these sectors can make banks fail. Calibrated for the Euro Area, results show that capital requirements based on the default risk of individual exposures amplify the reallocation of credit towards the real estate sector in the path to banking crises. Distortions to the allocation of credit in the path to crises, as well as the frequency and severity of banking crises, can be better mitigated by sector-specific macroprudential buffers than by generic buffers such as the Countercyclical Capital Buffer (CCyB) of Basel III.

“The Cross Border Effects of Bank Capital Regulation in General Equilibrium” Download paper here

Abstract: We examine the cross-border effects of bank capital requirements using a two-country DSGE model with financial frictions, calibrated to match Euro Area banking flows. Regulation follows a host country principle, applying uniformly to all bank exposures within a country, regardless of the banks’ nationality. We find that increasing capital requirements in one country leads to a short run credit contraction in interconnected countries. However, long run credit spillovers are negligible. Instead, we find positive long run welfare spillovers, primarily due to higher bank dividend payouts to foreign bank owners, rather than increased financial stability in the foreign country.