TITLE:
Bank Regulation Based on Self-Assessment: Extension of an Equilibrium Model
AUTHORS:
Renlong Miao, Xinzhu Dai
KEYWORDS:
Bank Regulation, Self-Assessment, Capital Ratio
JOURNAL NAME:
Journal of Financial Risk Management,
Vol.11 No.1,
March
17,
2022
ABSTRACT: The recent financial crisis revealed that banks, especially these large
and complex banks, are opaque to be monitored by regulators. In an ideal world,
regulators are hoping all banks to be self-disciplined. That will reduce a lot
burdens for regulators. However, in practice, it is not always the case as
there will be by nature information asymmetric or information frictions between
banks and regulators. We develop a tractable model to study how banks respond
to capital requirements that are based on a self-assessment result about banks’
riskiness, and derive the policy and wealth implications. We use the model to characterize the optimal
requirements, and to study the trade-offs a regulator faces in making
efforts to ensure bank’s self-assessment more accurate or in disclosing the
inspection results to public.