Abstract
This research intends to explore the relationship between capital buffer, nominator effect, denominator effect, and economic growth for large insured commercial banks of the USA. The study applied a two-step system Generalized Method of Moment (GMM) framework by taking the unique and comprehensive dataset over the period extending from 2002 to 2018. The research found a countercyclical relationship between a capital buffer and economic growth. In the case of well-capitalized banks, this relationship is more critical than adequately capitalized banks. In the case of low-liquid banks, counter-cyclicality is more significant than high-liquid banks. The results also suggest the pro-cyclical relationship between nominator, denominator, and economic growth. The results remain consistent and robust with the use of the tier-one capital buffer ratio. The findings have implications for regulators to incorporate the counter-cyclicality between the capital buffer and economic growth, while formulating the policies for capital requirements in the future.
Highlights
The findings show a pro-cyclical relationship between the nominator and economic growth, which favors the argument that banks earn higher profits in the expansion phase of the economy and require more capital to invest in profitable opportunities
This research explores the relationship between capital buffer, nominator effect, denominator effect, and economic growth for large insured commercial banks of the USA
The analysis concludes the countercyclical relationship between economic growth and capital buffer
Summary
Publisher’s Note: MDPI stays neutral with regard to jurisdictional claims in published maps and institutional affiliations. Committee supported the countercyclical capital buffer need to mitigate pro-cyclical capital buffer impacts This component expects banks to build additional capital buffers during a financial upswing as a safety measure for future vulnerabilities. To examine whether the relationship between a capital buffer and economic growth is pro-cyclical or countercyclical, does the relationship stay identical for well-capitalized, adequately capitalized, high-liquid, and low-liquid banks?. The capital buffer is pro-cyclical or countercyclical for either well-capitalized, adequately capitalized, high- and low-liquid banks, or the industry as a whole. To our information, this is the first study to explore the relationship between a capital buffer and macro-economic fluctuations using the extensive dataset from commercial banks in the USA. The article is structured as follows: the section contains a review of the related literature, the third part provides data sources and methods (including econometric models), Section 4 includes results and discussion, and the final section concludes the research
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