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ICMA Centre Research looks at whether banks could survive a new Great Depression

A newly issued ICMA Centre discussion paper looks into the recent financial crisis and into whether banks could survive a new Great Depression. Simone Varotto, Teaching Fellow at the ICMA Centre, investigates whether banks complying with current and proposed bank capital regulation would set aside enough capital reserves to survive a Great Depression scenario, the severe worldwide economic downturn that occured in the 1930s.

Varotto first analyses banks' loan portfolios and finds that regulatory capital in most cases offers enough protection against extreme crisis events. The only exceptions are portfolios with average maturity beyond 10 years. Then, he investigates bank's trading portfolios and finds that current minimum capital requirements will have to increase dramatically and, depending on the maturity and rating characteristics of the portfolio, by more than 5 times the current levels to cover for credit risk and market risk in stressed conditions. He also finds that the increase is mostly due to market risk capital charges which can be more than 20 times larger than the newly introduced "incremental risk charge" for credit risk. The paper's conclusions call for further research to understand the potentially large impact of the new regulation on bank's investment decisions and lending practices."

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Published 18 March 2010

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