The Role of Bank Capital in Bank Holding Companies’ Decisions

Author/Editor:

Adolfo Barajas ; Thomas F. Cosimano ; Dalia S Hakura ; Sebastian Roelands

Publication Date:

March 16, 2015

Electronic Access:

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Disclaimer: This Working Paper should not be reported as representing the views of the IMF.The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the IMF or IMF policy. Working Papers describe research in progress by the author(s) and are published to elicit comments and to further debate

Summary:

This paper examines the role of bank capital in decision-making by bank holding companies (BHCs) in the United States. Following Chami and Cosimano’s (2001) call option approach to bank capital, BHCs optimally choose the amount of capital to insure the bank against becoming capital constrained in the future. We provide empirical support for this model, and find that a higher optimal level of capital leads to higher loan rates. Furthermore, higher loan rates result in lower amounts of lending. Thus, an increase in capital requirements is likely to lead to higher loan rates and a significant reduction in lending.