Capital ideas: optimal capital accumulation strategies for a bank and its regulator

Glover, KJ; Johnson, PV; Evatt, GW; Cheng, M

Capital ideas: optimal capital accumulation strategies for a bank and its regulator

Glover, KJ Johnson, PV Evatt, GW Cheng, M

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Publisher:: Taylor and Francis Group
Publication Type:: Journal Article
Citation:: The European Journal of Finance, 2023, 29, (18), pp. 2075-2106
Issue Date:: 2023

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Field	Value	Language
dc.contributor.author	Glover, KJ
dc.contributor.author	Johnson, PV
dc.contributor.author	Evatt, GW
dc.contributor.author	Cheng, M
dc.date.accessioned	2023-11-08T01:14:18Z
dc.date.available	2023-11-08T01:14:18Z
dc.date.issued	2023
dc.identifier.citation	The European Journal of Finance, 2023, 29, (18), pp. 2075-2106
dc.identifier.issn	1351-847X
dc.identifier.issn	1466-4364
dc.identifier.uri	http://hdl.handle.net/10453/173219
dc.description.abstract	We formulate a continuous-time model of a deposit taking bank, operating subject to capital adequacy regulation, and where the bank's loans are exposed to default risk. The bank maximises its market value of equity by appropriately controlling loan and equity issuance, dividend payments, and endogenous closure. Of interest to regulators, we show how the bank responds to the span of capital adequacy requirements and to changes in default variance. We find a nonmonotonic response of bank lending to increased capital requirements (initially increasing and then decreasing). We also find that the probability of early closure (through either insolvency or endogenous closure) can be minimised for a well-chosen capital adequacy ratio. Moreover, the level of capital requirement that minimises the probability of early closure and maximises lending is fairly robust to changes in the bank's default variance/risk; contributing to the ongoing discussion on optimal bank capital.
dc.language	English
dc.publisher	Taylor and Francis Group
dc.relation.ispartof	The European Journal of Finance
dc.relation.isbasedon	10.1080/1351847x.2023.2179414
dc.rights	info:eu-repo/semantics/embargoedAccess
dc.rights	This is an Accepted Manuscript of an article published by Taylor & Francis in The European Journal of Finance on 01 Mar 2023, available online: http://www.tandfonline.com/10.1080/1351847x.2023.2179414
dc.subject	1502 Banking, Finance and Investment
dc.subject.classification	Finance
dc.subject.classification	3502 Banking, finance and investment
dc.subject.classification	3801 Applied economics
dc.title	Capital ideas: optimal capital accumulation strategies for a bank and its regulator
dc.type	Journal Article
utslib.citation.volume	29
utslib.for	1502 Banking, Finance and Investment
pubs.organisational-group	/University of Technology Sydney
pubs.organisational-group	/University of Technology Sydney/Faculty of Business
pubs.organisational-group	/University of Technology Sydney/Faculty of Business/Finance Discipline
pubs.organisational-group	/University of Technology Sydney/Strength - QFRC - Quantitative Finance Research Centre
utslib.copyright.status	open_access	*
pubs.consider-herdc	true
utslib.copyright.embargo	2024-08-31T00:00:00+1000Z
dc.date.updated	2023-11-08T01:14:17Z
pubs.issue	18
pubs.publication-status	Published
pubs.volume	29
utslib.citation.issue	18

Abstract:

We formulate a continuous-time model of a deposit taking bank, operating subject to capital adequacy regulation, and where the bank's loans are exposed to default risk. The bank maximises its market value of equity by appropriately controlling loan and equity issuance, dividend payments, and endogenous closure. Of interest to regulators, we show how the bank responds to the span of capital adequacy requirements and to changes in default variance. We find a nonmonotonic response of bank lending to increased capital requirements (initially increasing and then decreasing). We also find that the probability of early closure (through either insolvency or endogenous closure) can be minimised for a well-chosen capital adequacy ratio. Moreover, the level of capital requirement that minimises the probability of early closure and maximises lending is fairly robust to changes in the bank's default variance/risk; contributing to the ongoing discussion on optimal bank capital.

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http://hdl.handle.net/10453/173219