Are Higher Capital Requirements Worth It?

Are Higher Capital Requirements Worth It?

The studies I have reviewed suggest that for every 1 percent increase in capital minimums, lending rates will rise by 5 to 15 basis points and economic output will fall 0.15 percent to 0.6 percent. Despite this variation, it is reasonable to expect that increases in borrowing costs of this magnitude may curtail lending enough to create a lasting drag on overall economic activity. Less clear is what harm would ensue from another financial crisis without more well-capitalized banks. Indeed, if the risk-weighted capital ratio had been 6 percent—in line with the new minimum—the International Monetary Fund estimates that large U.S. banks would have had enough capital to cover their losses at the peak of the 2008–2009 crisis. That would have avoided a financial sector meltdown and the severely depressed economic activity and large-scale government intervention that followed.

Pablo D’Erasmo

FRB of Philadelphia Research Department

April 2018

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