Journal Article

The Basel Accord and the Value of Bank Differentiation

Eberhard Feess and Ulrich Hege

in Review of Finance

Published on behalf of European Finance Association

Volume 16, issue 4, pages 1043-1092
Published in print October 2012 | ISSN: 1572-3097
Published online July 2011 | e-ISSN: 1573-692X | DOI: http://dx.doi.org/10.1093/rof/rfr002
The Basel Accord and the Value of Bank Differentiation

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The authors investigate optimal capital requirements in a model in which banks decide on their investment in credit scoring systems. The main result is that regulators should encourage sophisticated banks to keep their asset portfolios safe, while assets with high systematic risk should be concentrated in smaller banks. The proposed regulatory differentiation follows the Basel Accord’s distinction between internal ratings-based approach and standard approach. Sophisticated banks should increase their equity capital relative to other banks, leading to further size differentiation. The moral hazard problem of banks misrepresenting their loan portfolio risk is analyzed, with the result that it induces stricter capital requirements.

Keywords: K13; H41

Journal Article.  17135 words.  Illustrated.

Subjects: Publicly Provided Goods ; Tort Law

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