Liquidity Creation and Bank Capital

This paper aims to evaluate the relationship between capital and liquidity creation following the implementation of the Basel III rules. These regulatory measures target both increased capital ratios and a reduction of banks’ maturity transformation risk, which could result in excessive constraints...

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Bibliographic Details
Published in:Journal of financial services research 2019-12, Vol.56 (3), p.307-340
Main Authors: Casu, Barbara, di Pietro, Filippo, Trujillo-Ponce, Antonio
Format: Article
Language:English
Subjects:
Capital
Economic growth
Economics and Finance
Finance
Financial Services
Liquidity
Macroeconomics/Monetary Economics//Financial Economics
Maturity
Risk reduction
Transformation
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Summary:This paper aims to evaluate the relationship between capital and liquidity creation following the implementation of the Basel III rules. These regulatory measures target both increased capital ratios and a reduction of banks’ maturity transformation risk, which could result in excessive constraints on bank liquidity creation, thereby negatively affecting economic growth. Using a simultaneous equation model, we find a bi-causal negative relationship, which suggests that banks may reduce liquidity creation as capital increases; and when liquidity creation increases, banks reduce capital ratios. Our results therefore imply a trade-off between financial stability (higher capital, reduced risk) and economic growth (liquidity creation).
ISSN:0920-8550
1573-0735
DOI:10.1007/s10693-018-0304-y