Does the Basle Capital Accord reduce bank fragility? An assessment of the value-at-risk approach

Gordon J. Alexander, Alexandre M. Baptista

Research output: Contribution to journalArticlepeer-review

30 Scopus citations

Abstract

We examine the economic implications arising from a bank using a VaR-constrained mean-variance model for the selection of its trading portfolio as a consequence of the Basle Capital Accord. Surprisingly, we show that when a VaR constraint is imposed, it is plausible that certain banks will end up selecting 'riskier' portfolios than they would have chosen in the absence of the constraint. Accordingly, regulators such as the Basle Committee on Banking Supervision should be aware that allowing a bank to use VaR to determine its minimum regulatory capital may increase its fragility. Alternatives to VaR-based bank capital regulation that mitigate or even preclude its perverse implications are presented.

Original languageEnglish (US)
Pages (from-to)1631-1660
Number of pages30
JournalJournal of Monetary Economics
Volume53
Issue number7
DOIs
StatePublished - Oct 1 2006

Keywords

  • Bank regulation
  • Portfolio choice
  • Risk management
  • VaR

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