BANK CAPITAL AND THE CREDIT CRUNCH - THE ROLES OF RISK-WEIGHTED AND UNWEIGHTED CAPITAL REGULATIONS

We investigated whether in recent years banks have increased their hol dings of securities at the expense of their holdings of business loans in response to shortfalls of their capital relative to risk-weighted capital standards and relative to a capital standard that made no expl icit allowance for credit risk. We estimated that bank credit fell by about $4.50 for each $1 that a bank's capital fell short of the unweig hted capital standard. Banks that had less capital than required by th e risk-weighted standard appear to have shifted away from assets with low risk weights (securities and single-family mortgages) and to have shifted toward assets with higher risk weights (commercial real estate and commercial and industrial loans). When we included both shortfall variables in a regression, shortfalls relative to the unweighted capi tal standard significantly affected bank credit, while shortfalls of c apital relative to the risk-weighted standard did not. We found no sig nificant effects of capital shortfalls at other, local-competitor bank s on bank portfolios. Delinquencies in a given category of a bank's lo ans generally had significantly negative effects on that bank's holdin gs of loans in that category. In contrast, banks tended to increase ho ldings of loans in categories in which local-competitor banks were exp eriencing higher delinquency rates.