The more the merrier? Evidence on the value of multiple requirements in bank regulation

• Published in: Journal of banking & finance 2023-04, Vol.149, p.106753, Article 106753
• Main Authors: Buckmann, Marcus, Gallego Marquez, Paula, Gimpelewicz, Mariana, Kapadia, Sujit, Rismanchi, Katie
• Format: Article
• Language: English
• Subjects: Bank failure; Banking regulation; Basel III; Global financial crisis; Market-based metrics; Regulatory complexity
• ISSN: 0378-4266; 1872-6372
• DOI: 10.1016/j.jbankfin.2022.106753

This paper assesses the value of multiple requirements in bank regulation using a novel empirical rule-based methodology. Exploiting two datasets, we apply simple threshold-based rules to assess how different capital and liquidity ratios individually and in combination might have identified banks that failed in the global financial crisis and European sovereign debt crisis. Our results support the case for a small portfolio of different regulatory metrics, calibrated holistically. A portfolio of a leverage ratio, a risk-weighted capital ratio and a liquidity ratio such as the NSFR correctly identifies a high proportion of failing banks with fewer false alarms than any of these metrics individually – and at less stringent calibrations. The relative usefulness of individual metrics also varies across different crises and regulatory regimes, highlighting how a portfolio approach may be more robust. Further, we show that market-based capitalisation measures and loan-to-deposit ratios can provide complementary value in monitoring banks.