Do Capital Requirements Affect Long-Run Output Trends?

Abstract

The macroeconomic implications of capital requirement for banks have drawn remarkable attention after the financial crisis started in 2007. In particular, a considerable effort has been devoted by the scientific community and by the central banks in order to understand the effects of different capital requirements on long term growth. This paper aims to contribute to the debate, proposing an analysis based on an agent-based macroeconomic model, i.e., the Eurace model, that takes into account the complex pattern of interactions among different economic agents in a realistic and complete way. The institutional setting considered in the computational experiment consists in varying the allowed leverage ratio for commercial banks, i.e. the ratio between the value of the loan portfolio held by banks, weighted with a measure of the loan riskiness, and the banks net worth or equity, along the lines of capital adequacy ratios set by the Basel II agreement. The outcomes of the analysis show that bank’s capital requirement affects both the level of output and the output variability. In particular, limiting bank leverage by means of stricter capital requirements has a negative impact on output in short term that fades if the medium term and disappears in a long run scenario characterized by higher GDP levels.