Bank Risk Capital and Its Effectiveness in Selected Euro Area Banking Sectors

Irena Pyka,Aleksandra Nocoń

doi:10.3390/jrfm14110555

Abstract

Risk capital or capital at risk (CaR) refers to the amount of capital set aside and maintained by banks to cover different types of risk. For banks, it is used as a buffer against claims or expenses in the event that ordinary capital is not enough to cover them. Thereby, risk capital can also be recognized as risk-bearing capital or surplus funds. Risk capital may generate very high costs, but on the other hand it protects against insolvency. That’s why a bank needs to find the ‘Gold mean’—the optimal value of risk capital that will not lower its efficiency, but still ensure financial security. The main objective of the study is identification of interdependencies between bank risk capital and effectiveness of the aggregated Eurozone banking sector and selected national banking sectors of the euro area. The paper tries to answer the research question whether the risk capital supports or lowers banks’ operational effectiveness. The adopted research hypothesis stated that there is a positive correlation between profitability and size of bank risk capital. To verify the hypothesis regression models were used. The results indicate that the size and structure of bank capital impact on the credit institutions’ effectiveness in the analyzed banking sectors, however with different intensity. Thereby, the article fulfils a research gap in the field of research studies that take into account how capital at risk and specific capital adequacy regulations may impact on a bank’s efficiency.

Highlights

Bank risk capital identified with risk capital or capital at risk (CaR) (Duliniec 2011)causes controversy among scientists, policymakers and representatives of the banking industry due to the Basel Accord—Basel III (Basel Committee on Banking Supervision2010), implemented as a response to the global financial crisis
‒ − ananincrease was related relatedtotoaagrowth growthofofreturn return assets of banks increaseof ofbank bank risk risk capital capital was onon assets of banks and Germanyand andininthe theaggregated aggregated euro area banking andcredit creditinstitutions institutions in in France, France, Germany euro area banking sector; in the case of France and the whole euro area, this dependence was strong, sector; in the case of France and the whole euro area, this dependence was strong, while in the German banking sector it took the form of a moderate correlation; a lack while in the German banking sector it took the form of a moderate correlation; a lack ofofrelation the Italian
‒ − ananincrease in aalevel levelofof own funds resulted in an improvement increase in own funds alsoalso resulted in an improvement in returnin onreturn equity on in thein aggregated sectorsector of the of euro correlation); a moderate positive equity the aggregated thearea euro(strong area; a moderate positive correlation was identified in France and Germany; while in the Italian banking sector there was no correlation between the examined features, and return on equity was independent of the size of bank risk capital and profitability was strongly determined by macroeconomic factors;

Summary

Introduction

Bank risk capital identified with risk capital or capital at risk (CaR) (Duliniec 2011)causes controversy among scientists, policymakers and representatives of the banking industry due to the Basel Accord—Basel III (Basel Committee on Banking Supervision2010), implemented as a response to the global financial crisis. Deelchand and Padgett suggested that if capital is regarded as very expensive and banks want to increase its level to meet regulations, than they will have to bear more risk to generate a higher rate of return (Deelchand and Padgett 2009). If cost of capital is high and a level of undertaken risk is higher, the financial stability of an individual bank may be at risk (Bitar et al 2019)

Objectives

Methods

Results

Conclusion