Citation

Discussion Paper Details

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Title: Capital Regulation and Tail Risk

Author(s): Enrico C Perotti, Lev Ratnovski and Razvan Vlahu

Publication Date: August 2011

Keyword(s): Capital regulation, Keywords: Banking, Risk, Risk-taking, Systemic risk and Tail risk

Programme Area(s): Financial Economics

Abstract: The paper studies risk mitigation associated with capital regulation, in a context where banks may choose tail risk assets. We show that this undermines the traditional result that higher capital reduces excess risk-taking driven by limited liability. Moreover, higher capital may have an unintended e¤ect of enabling banks to take more tail risk without the fear of breaching the minimal capital ratio in nontail risky project realizations. The results are consistent with stylized facts about pre-crisis bank behavior, and suggest implications for the optimal design of capital regulation.

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Bibliographic Reference

Perotti, E, Ratnovski, L and Vlahu, R. 2011. 'Capital Regulation and Tail Risk'. London, Centre for Economic Policy Research. https://cepr.org/active/publications/discussion_papers/dp.php?dpno=8526