Basel Capital Requirements Research Articles

MARKET REACTION TO THE IMPLEMENTATION OF BASEL CAPITAL IN SOUTH AFRICAN BANKS: EVENT STUDY APPROACH

This study investigated the stock market reaction and the effect of the implementation of Basel II and Basel III on the stock returns of South African banks. In achieving this aim, this study focused on daily and annual data of six commercial banks from 3rd January 2004 to 31st December 2022. The event study methodology was employed to identify abnormal returns around the specified event dates. The effect of the changes in Basel capital requirements on stock returns was not uniform across the four events. The market reacted favourably to the implementation of the Basel II requirements in the country. There was a significantly negative market reaction to the subsequent full implementation of Basel III official. Finally, higher Basel capital requirements (CAR) was associated with lower bank stock returns. The findings implied that bank regulators increase capital to strengthen the banking system but constrain the maximisation of shareholders’ values.

Country Risk and Financial Stability: A Focus on Commercial Banks in Africa

This paper employs dynamic panel models to investigate the impact of country risk on the financial stability of banks in Africa. Using country risk and bank specific data for 10 African countries over the period of 2000 and 2021, the results reveal that African countries have a high country risk exposure. The country risk negatively and significantly affects African bank stability. The study findings suggest that compliance with at least Basel II capital requirements is needed to protect African banks from the negative effects of country risk on their stability in the short run. However, the adverse effects of prolonged country risk are mitigated by the compliance with higher Basel capital requirements in the long run. The results further show that an efficient legal and regulatory framework is essential to complement the capital buffer against country risk. Policies must be introduced to reduce country risk to enable African banks to adequately support the African economy in good and challenging times. Overall, country risk remains a threatening factor for bank stability, and consequently, banks need adequate capital to reduce the impact of country risk on bank stability in Africa.

Prudential policy spillovers: How do international bank flows react to French policies?

Most of prudential regulations apply to national institutions while, in practice, banks operate at the global level, generating international banking flows which are not comprehensively captured by policies with a domestic remit. This may give rise to spillovers, i.e., effects not considered ex ante in the objectives and/or constraints of authorities in charge of prudential policy, the effectiveness of which may be harmed. Using BIS data on foreign bank lending over a large sample of countries, we investigate international spillovers from French prudential policies. Overall, we show that French prudential policies entail a reduction in foreign banks' lending to French residents. Yet some measures may lead to undesired leakages that potentially undermine authorities' goals: foreign bank affiliates’ exposure to France rose by 1.1% (1.9 Bn USD) on average over 2011–17 owing to the implementation of Basel capital requirements.

Global financial crisis, international capital requirement and bank financial stability: an international evidence

PurposeFinancial crises (FC) remain a global threat to the financial stability of financial institutions and international bank regulatory capital requirement (IBRCR) by the Committee on Banking Supervision provides mechanism for curbing the adverse effect of FC on financial stability. Hence, the purpose of this study is to provide, evidence on how IBRCR tones down the adverse FC effects on bank financial stability (BFS).Design/methodology/approachThe study uses 102 economies between 2006 and 2016 in a two-step dynamic generalized method of moments model.FindingsThe results show that while FC and IBRCR negatively and positively impact BFS, respectively, it is observed that under the increasing presence of IBRCR, the negative effect of FC on BFS declines. Additionally, the results show that economies that maintain minimum IBRCR above 10.5% recommended by BASEL III are able to reinforce a significant reduction in the negative effect of FC on BFS.Practical implicationsThese findings imply that in as much as financial crisis is injurious to BFS, regulators and policymakers can rely on IBRCR to avert the injurious effects of FC on BFS. Clearly, while IBRCR is necessary for reinforcing BFS through FC, bank managers who maintain IBRCR above the recommended 10.5% stands a better chance to taming the avert effect of FC on BFS. Additionally, economies that have not full adopted the BASEL minimum capital requirement may have to do so given its potential of dampening the adverse effect of FC on BFS.Originality/valueThe study presents an international perspective of how BASEL capital requirements can help tame global financial crisis using a global sample of 102 economies.

Changes in Basel Capital Requirements and Lending Ability of African Commercial Banks

Abstract This research examines the potential impact of Basel IV capital requirements (CAR) on bank lending ability in Africa. To achieve the objective, the study simulated Basel IV capital ratio using historical data to create sample representative banks as if the selected banks had implemented Basel IV CAR for the period 2000 and 2018 and used actual data for existing Basel II and III CAR. Dynamic panel regression analyses, namely the System GMM and P-ARDL, were utilised. First, our results suggest that higher Basel CAR, particularly the new Basel IV, portends short-term negative impacts on bank lending while the long-term impact on bank lending is favorable. Second, the weight of non-performing loans tends to decline as banks transitioned from lower to higher Basel CAR. Lastly, this study shows that complying with Basel IV CAR will help African banks to achieve financial deepening and increase bank lending ability.

The Impact of Changes in Basel Capital Requirements on the Resilience of African Commercial Banks

Focusing on a panel sample of 41 commercial banks over the period of 2000-2018, this study examined the effect of capital adequacy on the resilience of commercial banks in Africa under changing Basel levels (II, III, and the proposed Basel IV). The study created sample representative banks for the proposed Basel IV and used two measures, namely Z-score and CAMELS, to capture bank resilience. Using the panel logistic regression and fixed effect model, we found that capital adequacy, liquidity, earnings management efficiency, and macroeconomic conditions are key determinants of the resilience of commercial banks in Africa. Additionally, Basel compliant banks tend to be less prone to macroeconomic factors. Based on the positive and significant impact of all Basel capital ratios on Zscore, the results suggest that a high level of capital requirements increases African banks' resilience, and banks with higher capital can absorb risk exposures.

Basel IV capital requirements and the performance of commercial banks in Africa

Capital adequacy is considered an essential determinant banks' performance. Banks in Africa have revenue growth opportunities, but fragility and vulnerability to bank failures arising from capital inadequacy and non-performing loans affect their performances. The Basel Committee aims to introduce higher capital requirements is to strengthen the resilience of the banking system; however, the implementation of higher Basel capital requirements may affect the performance of banks. This study examines the potential impact of Basel IV capital requirements (CAR) on the performance of commercial banks from selected African countries. To achieve the set objective, the study simulated Basel IV CAR to create sample representative bank balance sheets using historical data from 2000 to 2018 because Basel IV CAR has not commenced. The study developed a sample-representative of Basel IV CAR and employed static and dynamic panel regression analyses as the estimation techniques. The results suggest that Basel IV CAR portends short-term negative impacts on bank performance while the long-term impact on bank performance is favorable.

The nexus between Basel capital requirements, risk-taking and profitability: what about emerging economies?

The study examines the nexus between Basel capital requirements, banking sector risk-taking, and profitability in Asian emerging markets by using dynamic panel GMM methodology. The findings of the study suggest that regulatory capital positively affects risk-taking which validates the “regulatory hypothesis.” The findings also reveal that regulatory capital positively while risk negatively affects the profitability in the banking sector. The current study finds the bidirectional causality between the regulatory capital and risk-taking, implying that banks with higher capital ratios are expected to increase in risk-taking and vice versa. The findings also suggest that managerial ownership positively affects while foreign ownership negatively impacts risk-taking consistent with the agency theory of corporate governance. The study proposes that ownership structure has a significant influence on bank risk and profitability, however, the combined impact of regulatory capital through its interaction with the ownership structure is not proved to be significant.

Analysing the growing interplay of accounting and regulatory capital: A state-of-the-art review

Accounting standards and prudential regulation are key elements of the financial system and are increasingly seen as complementary concepts despite their divergent objectives. This paper examines the growing convergence of accounting and Basel capital requirements in the wake of the latest financial crisis and reviews the empirical evidence on the risk behavioural and economic implications arising from the interactions. Loan loss provisioning under the IFRS 9 expected credit loss model as well as the prudential filter for unrealized fair value losses form the central link between accounting and regulatory capital as they align loss recognition and measurement methods. The remaining conceptual and methodological differences may trigger procyclical effects on banks’ capital and lending with negative consequences for financial stability. Based on the findings, the paper contributes to the discussion about a strict decoupling of the two systems to reconcile the conflict between accounting and regulatory objectives and identifies avenues for future research.

Basel capital requirements, portfolio shift and bank lending in Africa

Bank lending is a major source of income for a bank. Compliance with higher Basel capital requirements (CAR) portends serious implication for distribution of loan portfolio across different sectors. The objective of the study is to examine African banks’ responses to higher CAR in terms of portfolio shift. The study used descriptive statistics and ANOVA for panel data of African commercial banks that have implemented Basel II or III CAR for the period 2000 and 2018. Based on the results of our analysis, implementation of higher Basel CAR by African banks revealed four key findings. Firstly, our results suggest that higher Basel CAR particularly Basel III reduced total loans for South African banks. Secondly, African banks engage in portfolio shift with higher Basel levels. Thirdly, higher Basel capital increased banks' capital ratios in Africa, but some banks are still characterized by low equity. Fourthly, African banks reduce lending to high risk-weighted loans such as real estate and commercial loans except for South African banks which increased lending to commercial loans with higher Basel CAR. Lastly, this study proffers key insight into the lending behaviour of African banks with the implementation of higher Basel CAR.

Random LGD adjustments in the Vasicek credit risk model

This paper proposes an approximate formula to measure the credit risk of portfolios under random recoveries. This formula is based on a Taylor expansion and enables having recoveries that are correlated with the default rates over the business cycle. We show how to calibrate the corresponding models and the accuracy of the approximation using defaulted corporate bonds data for the period 1982–2014. Our results show that the proposed formula can be used to approximate the loss distribution of a portfolio under random correlated recoveries in a very satisfactory way. Moreover, this kind of recovery models could be easily implemented under the Basel capital requirements regulation to improve the credit risk measurement.

The Impact of the Basel Capital Requirements on The Performance of Egyptian Banks

The study investigated The Impact of the Basel Capital Requirements on The Performance of Egyptian Banks, using 14 years of data, which cover the period 2004-2018. This thesis empirically investigates two issues. Firstly, Research of difference in financial performance after the application of Basel II in terms of capital adequacy for the period (2004-2007) to the period (2009-2012). Secondly, Investigate the Impact of the Basel Capital Requirements on The Performance of Egyptian Banks, by research to effect of Capital Adequacy in the period (2009-2018) on Financial Performance. through A Return on Equity, Return on Assets, Net Interest Margin and Non-Performing Loan as dependent Variable, On the Other Hand Independent Variable Represents Capital Adequacy Ratio and Controlled Variable Are Bank Size and Time Period.For the first issue, the results of the study found Financial Indicators (ROA&ROE&NIM&NPL) Improved After the Application of Basel II With Capital Adequacy. For the second issue, the results of the study found positive Relationship between Return on Equity, Return on Assets, Net Interest Margin and Capital Adequacy Ratio on The Other Hand The results of the study found negative Relationship between Non-Performing Loan and Capital Adequacy Ratio.

Capital regulation and banking bubbles

This paper develops a dynamic general equilibrium model in infinite horizon with a regulated banking sector. We borrow the methodology of Miao and Wang (2015) to analyse how Basel capital requirement recommendations may generate and affect banking bubbles and macroeconomic key variables. We show that when banks face capital requirements based on credit risk, as in Basel I, bubbles cannot exist. Alternatively, under a regulatory framework where capital requirements are based on Value-at-Risk, as in Basel II and III, two different equilibria emerge and can coexist: the bubbleless and the bubbly equilibria. Bubbles can be positive or negative, depending on the tightness of capital requirements based on Value-at-Risk. We find a maximum value of capital requirement below which bubbles are positive and provide a larger welfare compared to the bubbleless equilibrium. Our results also suggest that a change in banking policies might lead to a crisis without external shocks.

Japan's Lost Decade: Lessons for Other Economies

Japan has suffered from sluggish economic growth and recession since the 1990s, a phenomenon dubbed "Japan's Lost Decade." The People's Republic of China, many countries in the eurozone, and the United States may face similar problems in future and they have been concerned by Japan's long-term recession. This paper will address why Japan's economy has stagnated since the bursting of its economic bubble. Our empirical analysis challenges the beliefs of some western economists, such as Paul Krugman, that the Japanese economy is in a liquidity trap. We argue that Japan's economic stagnation stems from a vertical IS curve rather than a liquidity trap. The impact of fiscal policy has declined drastically, and the Japanese economy faces structural problems rather than a temporary downturn. These structural problems have many causes: an aging demographic (a problem that is frequently overlooked), an over-reliance by local governments on transfers from the central government, and Basel capital requirements that have made Japanese banks reluctant to lend money to startup businesses and small and medium-sized enterprises. This latter issue has discouraged Japanese innovation and technological progress. The paper will address all these issues empirically and theoretically and will provide some remedies for Japan's long-lasting recession.

The Basel Capital Requirement, Lending Interest Rate, and Aggregate Economic Growth: An Empirical Study of Viet Nam

In recent years, the Vietnamese economy has shown signs of financial distress, and especially small banks have experienced serious liquidity and solvency problems. Based on the new policy of the State Bank of Vietnam, in order to ensure safe and effective banking operations, the Basel II accord will be widely applied to the whole banking system by 2018. This paper investigates the effects of the Basel II capital requirement implementation in Viet Nam on the bank lending rate and national output. The paper provides a theoretical framework as well as empirical model by developing a Vector Error Correction Model (VECM) over the period 2018 to 2016 by employing three groups of indicators (macroeconomics, banking, and monetary). The main finding of the paper is that at the bank level, a tightening of regulatory capital requirements does not induce a higher lending rate in the long run. Also, changes in micro-prudential capital requirements on banks have statistically significant spillovers on the GDP growth rate in the short term; yet, their effects significantly lessen over a longer period.

The Dark Side of Implementing Basel Capital Requirements: Theory, Evidence, and Policy

Most financial systems around the world have imposed new capital requirements for banks in the past years. This policy seems to be justified on two powerful economic grounds. First, better capitalized banks promote financial stability by reducing banks’ incentives to take risks and increasing banks’ buffers against losses. Second, lack of compliance with a set of rules established by the Basel Committee may harm confidence on a country´s financial system. While acknowledging these potential benefits, this paper makes the often overlooked point that the full implementation of Basel capital requirements may be socially undesirable for poorer countries seeking to develop their economies. On the one hand, higher capital requirements may reduce people´s access to finance, which can be particularly problematic in emerging countries with less developed capital markets and greater problems of financial exclusion. On the other hand, the one-size-fits-all model incentivized by the Basel Committee does not take into account many emerging countries’ social and economic markets, infrastructures and priorities. In our opinion, the presence and power of certain countries in the Basel Committee makes Basel recommendations partially biased toward those problems existing in these jurisdictions. Based on the aforementioned problems, this paper suggests some policy recommendations to promote a more resilient financial system without hampering financial inclusion and economic growth.

The Dark Side of the Implementation of Basel Capital Requirements: Theory, Evidence and Policy

Most financial systems around the world have imposed new capital requirements for banks in the past years. This policy seems to be justified on two powerful economic grounds. First, better capitalized banks promote financial stability by reducing banks’ incentives to take risks and increasing banks’ buffers against losses. Second, lack of compliance with a set of rules established by the Basel Committee may harm confidence on a country´s financial system. While acknowledging these potential benefits, this paper makes the often overlooked point that the full implementation of Basel capital requirements may be socially undesirable for poorer countries seeking to develop their economies. On the one hand, higher capital requirements may reduce people´s access to finance, which can be particularly problematic in emerging countries with less developed capital markets and greater problems of financial exclusion. On the other hand, the one-size-fits-all model incentivized by the Basel Committee does not take into account many emerging countries’ social and economic markets, infrastructures and priorities. In our opinion, the presence and power of certain countries in the Basel Committee makes Basel recommendations partially biased toward those problems existing in these jurisdictions. Based on the aforementioned problems, this paper suggests some policy recommendations to promote a more resilient financial system without hampering financial inclusion and economic growth.

Banks' Adjustment to Basel III Reform: A Bank-Level Perspective for Emerging Europe

The paper seeks to identify strategies of commercial banks in response to higher capital requirements of Basel III reform and its phase-in. It focuses on a sample of nine EU emerging market countries and picks up 5 largest banks in each country assessing their response. The paper finds that all banking sectors raised CAR ratios mainly through retained earnings. In countries where the banking sector struggled with profitability, banks have resorted to issuance of new equity or shrunk the size of their balance sheets to meet the higher capital-adequacy requirements. Worries echoed at the early stage of Basel III compilation, namely that commercial banks would shrink their balance sheet by reducing their lending to meet stricter capital requirements, did materialize only in banks struggling with profitability.

Analysis of default behavior of borrowers under Islamic versus conventional banking

Purpose The purpose of this paper is to consider borrower-specific characteristics to understand the factors affecting both the probability and quantum of loan default by individual borrowers under Islamic and conventional banking. Design/methodology/approach Borrower-specific characteristics that explain the probability of default may not necessarily be similar factors that determine the quantum of default. The authors therefore apply a Box-Cox double hurdle model to treat both the probability and quantum of default in a two-step approach. The authors also explain the differences in default risk and quantum of default between Islamic and conventional banking borrowers from their behavioral perspectives following the Sharia principles in financial transactions between lenders and borrowers. The authors use borrower-specific information of two separate bank branches of the United Arab Emirates that solely deal with either Islamic or conventional banking products. Findings The paper demonstrates that the probability of default and the quantum of default appear to be influenced by different set of client-specific factors. The results suggest that the probability of default does not vary significantly between Islamic and conventional banking borrowers. The evidence also shows that Islamic banking defaulters, compared to those in conventional banking, repay a large quantum of overdue when their financial leverage improves. However, they do not tend to reduce their outstanding quantum of overdue faster than conventional banking defaulters. Research limitations/implications Availability of data from only two bank branches may limit the explanatory power of empirical findings. Practical implications The study findings will enable the Islamic and conventional banks to appropriately address Basel Capital requirements based on the borrowers’ behavior. Social implications The study findings have the potential for Islamic and conventional financing institutions to be more flexible with equity in their lending practices. Originality/value Religious beliefs are crucial in borrower’s default behavior in Islamic banking.

Basel II and the Capital Requirements Directive: Responding to the 2008/09 Financial Crisis

This paper addresses factors which have prompted the need for further revision of banking regulation, with particular reference to the Capital Requirements Directive. The Capital Requirements Directive (CRD), which comprises the 2006/48/EC Directive on the taking up and pursuit of the business of credit institutions and the 2006/49/EC Directive on the capital adequacy of investment firms and credit institutions, implemented the revised framework for the International Convergence of Capital Measurement and Capital Standards (Basel II) within EU member states. Pro cyclicality has attracted a lot of attention – particularly with regards to the recent financial crisis, owing to concerns arising from increased sensitivity to credit risk under Basel II. This paper not only considers whether such concerns are well-founded, but also the beneficial and not so beneficial consequences emanating from Basel II’s increased sensitivity to credit risk (as illustrated by the Internal Ratings Based approaches). In so doing it considers the effects of Pillar 2 of Basel II, namely, supervisory review, with particular reference to buffer levels, and whether banks’ actual capital ratios can be expected to correspond with Basel capital requirements given the fact that they are expected to hold certain capital buffers under Pillar 2. Furthermore, it considers how regulators can respond to prevent systemic risks to the financial system during periods when firms which are highly leveraged become reluctant to lend. In deciding to cut back on lending activities, are the decisions of such firms justified in situations where such firms’ credit risk models are extremely and unduly sensitive - hence the level of capital being retained is actually much higher than minimum regulatory Basel capital requirements ?