Post-Crisis Regulatory Reform in Banking: Address Insolvency Risk, Not Illiquidity!

Abstract

An extensive review of the evidence related to the 2007-09 crisis reveals that it was an insolvency risk crisis, not a liquidity crisis. The appropriate post-crisis regulatory reform should therefore focus on increasing capital requirements. The Basel III liquidity requirements do not serve a useful economic purpose in dealing with the root causes of the stresses that led to the 2007-09 crisis, and unnecessarily constrain the asset transformation and liquidity creation roles of banks to the detriment of economic growth.