Abstract
This paper reviews literature exploring capital adequacy requirements' impact on monetary policy effectiveness. It reviews main theories on bank lending supply through which capital requirements affect monetary policy effectiveness, and finds that a binding risk-based capital requirement affect the strength of monetary shocks. Moreover, with a binding capital requirement, the effects on bank lending supply depend on the size, the capital level, the balance sheet liquidity of banks and the capital distribution and market structure in the banking sector. The paper also reviews empirical findings which suggest that capital requirement is one reason for the credit crunch in the U.S. and Japan. After that, the paper reviews predictions on the impact of the Basel II on the effectiveness of monetary policy.
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