Is the International Convergence of Capital Adequacy Regulation Desirable?

Authors

  • Viral V. Acharya

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    • Viral V. Acharya is with the London Business School. This paper is the second essay in my dissertation at the Stern School of Business, New York University. The suggestions of an anonymous referee and Rick Green (editor) have been very valuable. I have benefited from the guidance of Yakov Amihud, Douglas Gale, Marty Gruber, Kose John, Anthony Saunders, Marti Subrahmanyam (chairman), and Rangarajan Sundaram. I am especially indebted to Rangarajan Sundaram for introducing me to the topic. I am grateful to Edward Altman, Mitchell Berlin, Alberto Bisin, Robert Bliss, Dick Brealey, Menachem Brenner, Steve Brown, Qiang Dai, Donald Fraser, Kenneth Garbade, Denis Gromb, Gyongyi Loranth, Anthony Lynch, Loretta Mester, Steve Schaefer, Alex Shapiro, William Silber, Raman Uppal, Narayanan Vaghul, Lawrence White, Jun Yang, my doctoral program colleagues, and the seminar participants at Haute Etudes Commerciales (HEC), International Monetary Fund, London School of Economics, and Western Finance Association Meetings for their feedback, and to Nancy Kleinrock for editorial assistance. I acknowledge the help of Mickey Bhatia and Blythe Masters of J.P. Morgan, Lev Borodovsky of Credit Suisse First Boston, and Erik Larson and Mitch Stengel of the Office of the Comptroller of Currency for enriching my understanding of bank regulation. A part of this research was supported by the Lehman Brothers Fellowship (2000–2001), for which I am very grateful. All errors remain my own.

Abstract

The merit of international convergence of bank capital requirements in the presence of divergent closure policies of different central banks is examined. The lack of a complementary variation between minimum bank capital requirements and regulatory forbearance leads to a spillover from more forbearing to less forbearing economies and reduces the competitive advantage of banks in less forbearing economies. Linking the central bank's forbearance to its alignment with domestic bank owners, it is shown that in equilibrium, a regression toward the worst closure policy may result: The central banks of initially less forbearing economies also adopt greater forbearance.

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