Linking Bank Capital Requirements to Monetary Policy Can Improve Banking Efficiency, Writes CASS Dean of Institute of Finance and Economics

Title: Competition, Capital Supervision and Efficiency Optimization of Commercial Banks——Regard to the Impact of Monetary Policy Environment (竞争、资本监管与商业银行效率优化——兼论货币政策环境的影响)
Journal: China Industrial Economics
Authors: He Dexu, Chinese Academy of Social Sciences (何德旭), Yu Jingjing, Capital University of Business and Economics, (余晶晶), Tong Feifei, Shandong Institute of Business and Technology (仝菲菲)
Link: https://bit.ly/2paRTHg
Publication Date: August 2019

  • In this research, the authors evaluated how proposals affecting loan competition, monetary policy, and capital requirements would affect Chinese banking efficiency and risk-management practices. The authors evaluated these reforms against 2007-2016 data from 126 sample commercial banks, which represented approximately 70 percent of the total banking sector during the time period surveyed.

  • The authors reported that increased competition for loan prices would reduce the amount of high-risk loans that commercial banks pursue (with greatest effect on small- and medium-sized commercial banks). As competition increases, banks need to optimize their operations to maintain profit efficiency, which results in better risk-management practices, especially among higher risk-taking banks, they write.

  • Under different monetary policies, flexible capital requirements will affect banks differently according to their risk profiles. For example, in a loose monetary policy environment, banks with high-risk profiles will achieve optimal efficiency if capital requirements are increased; banks with low-risk profiles will achieve optimal efficiency if capital requirements are decreased. In a tight monetary policy environment, banks with high-risk profiles will achieve optimal efficiency if capital requirements are decreased; banks with low-risk profiles will achieve optimal efficiency if capital requirements are increased.

  • The authors recommended that regulatory authorities: 1) increase loan competition by encouraging the financial industry to make it easier for foreign firms to take greater equity positions in Chinese companies, especially in small- and medium-sized businesses, and; 2) to optimize bank efficiency, link minimum capital requirements to monetary policy, and have capital control requirements tailored to individual banks’ risk profiles.

Note: China Industrial Economics is published by the government-affiliated Chinese Academy of Social Sciences (CASS). He Dexu is dean of the Institute of Finance and Economics at CASS.

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