Voluntary Equity, Project Risk, and Capital Requirements

Haufler, Andreas und Lülfesmann, Christoph (27. Dezember 2022): Voluntary Equity, Project Risk, and Capital Requirements. Collaborative Research Center Transregio 190, Discussion Paper No. 357

Abstract

We introduce a model of the banking sector that formally incorporates a buffer function of capital. Heterogeneous banks choose their portfolio risk, bank size, and capital holdings. Banks voluntarily hold equity when the buffer effect against the risk of default outweighs the cost advantages of debt financing. In this setting, banks with lower monitoring costs are larger, choose riskier portfolios, and have less equity. Moreover, binding capital requirements or levies on bank borrowing are shown to make higher-risk portfolios more attractive. Accounting for banks' interior capital choices can thus explain why higher capital ratios incentivize banks to undertake riskier projects.

• Dokumententyp: Paper
• Keywords: voluntary equity, capital requirements, bank heterogeneity
• Fakultät: Volkswirtschaft > Collaborative Research Center Transregio "Rationality and Competition"
• Themengebiete: 300 Sozialwissenschaften > 330 Wirtschaft
• JEL Classification: G28, G38, H32
• Sprache: Englisch