Abstract
Ten years after the worst financial crisis of the post-war period, Switzerland has established a Too-Big-To-Fail (TBTF) framework. Under this framework, the two large Swiss banks are subject to substantial capital requirements. It is not obvious whether the TBTF capital requirements are sufficient to prevent banks from plunging the country into a financial crisis once again. We estimate the social costs and benefits of higher capital requirements for the two large Swiss banks and derive socially optimal capital ratios from the cost-benefit trade-off. Our results show that Swiss TBTF capital requirements still fall short of socially optimal capital ratios.
Highlights
This paper seeks to contribute to the discussion of the optimal equity capital requirements for banks from a society’s perspective
6 Conclusions This paper extends the analysis of Junge and Kugler (2013) on the effects of increased equity capital requirements on Swiss GDP to the determination of an optimal leverage ratio
We improved our model by using the flexible translog production function, updated our estimates, and used newly available historical GDP data to estimate the effect of a banking crisis on real GDP
Summary
This paper seeks to contribute to the discussion of the optimal equity capital requirements for banks from a society’s perspective. We extend Junge and Kugler (2013) and seek to determine the long-run steady-state optimal leverage and capital ratios for the Swiss G-SIBs.7 This approach is in accordance with a major strand of economic research on bank capital and regulatory requirements. Balance sheet assets and BIS Tier 1 capital are collected from Bloomberg and the bank’s quarterly reports at group level model is adopted in order to get an efficiency gain in estimation when the Hausman test shows no significant correlation of the regressor and the time effects. This applies to the linear and the log-linear specification of the regression. This evidence is in line with other studies that find M-M offsets in the range of 40 to 70%.15
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