Working Paper Series no. 602: A DGSE Model to Assess the Post-Crisis Regulation of Universal Banks.

Abstract

The paper assesses the overall consistency and impact on both the financial sector and the real economy, of the numerous banking regulations that have been introduced in the aftermath of the Great Financial Crisis. For this purpose, we develop, within a multi-period asset framework, a large scale DSGE model with a real and a financial sector. Universal banks grant credit but invest also in corporate and sovereign bonds. Small companies are financed through bank loans only, while large corporate can also issue bonds.
The main findings of the paper are that: (i) the implementation of liquidity regulation which affects private consumption dynamics has a less persistent effect than solvency regulation that affects loan distribution as well as investment; (ii) the model assesses to what extent the Liquidity Coverage Ratio may induce banks to substitute sovereign bonds to business loans; (iii) liquidity and solvency regulations appear to be complementary; (iv) while the implementation of the LCR has qualitatively similar results as the NSFR, even if, quantitatively, the latter has a more moderate effect.

Olivier de Bandt and Mohammed Chahad
September 2016

Classification JEL : D58, E3, E44, G21

Keywords : Basel III, Solvency ratio, Liquidity ratios, Multi-period assets, Firms' heterogeneity