Risky Bank Lending and Optimal Capital Adequacy Regulation

We study the welfare properties of a New Keynesian monetary economy with an essential role for risky bank lending. Banks lend funds deposited by households to a financial accelerator sector, and face penalties for maintaining insufficient net worth. The loan contract specifies an unconditional lendi...

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Bibliographic Details
Main Author: Benes, Jaromir
Other Authors: Kumhof, Michael
Format: eBook
Language:English
Published: Washington, D.C. International Monetary Fund 2011
Series:IMF Working Papers
Online Access:
Collection: International Monetary Fund - Collection details see MPG.ReNa
Description
Summary:We study the welfare properties of a New Keynesian monetary economy with an essential role for risky bank lending. Banks lend funds deposited by households to a financial accelerator sector, and face penalties for maintaining insufficient net worth. The loan contract specifies an unconditional lending rate, which implies that banks can make loan losses. Their main response is to raise lending rates to rebuild net worth. Prudential rules that adjust minimum capital adequacy requirements in response to loan losses significantly increase welfare. But the gains from eliminating limited liability and moral hazard would be an order of magnitude larger
Physical Description:27 pages
ISBN:9781455259359