Countercyclical Regulatory On Bank Credit And Financial Stability

This paper combed through theoretical development of the economic cycle and financial cycle,starting from the interaction between economic cycle and financial period,demonstrates the financial cycle for positive and negative effects of the economic cycle.Due to the particularities of financial cycles(homogeneity,expected factors and speculative factors,lack of self-regulating mechanism),so that it has a higher degree of fluctuation.Hence it is necessary to carry out the financial counter-cycles control.Credit pro-cyclicality is interactions of financial cycles and economic cycle.It magnified the economic fluctuations,the systemic risk posed by pro-cyclicality threats financial stability.Before and after United States subprime credit crisis the credit difference highlights the cycle of harm and the need for countercyclical regulatory intervention.Reinforcement each other along the credit and asset price cycles becomes important sources of systemic risk.Bonds of credit expansion and asset price fluctuation play a role in the banking crisis.In theory,bank credit itself is inherently pro-cyclical.When macro-economic cycles in the rising stage,corporate profits and solvency improve,loan default rates drop down.Due to good market prospects,investment demand and huge demand for capitals propspers,mortgage asset price inflation.Banks tend to take on more risk,more willing to lend to the customer,and relaxed requirements for mortgage,hence credit expansion and profits increased.Many lending boom in recession may translate into bad loans,threating bank profits and provisioning,eroding capital.Vice versa.Under asymmetric information collateral asset price fluctuations,the perpetrator under the theory of behavioral finance "bounded rationality" and "herd effect","good expectations" and "disaster myopia" magnified the pro-cyclicality effects of credit.Along the cycle of credit in addition to inherent reasons,pro-cyclicality effects of capital regulation reinforces the pro-cyclicality of credit.Risk-sensitive rating method and fair value accounting standards are the reason for regulatory capital along the cycle.While economy rise up,the ratio of risk assets(credit and non-credit assets)decline,bank capital adequacy ratio rise,credit expansion.In contrast,actual capital adequacy rate of decline,credit contraction.Provision is the first reflection of credit asset quality,is the first defense line against bank credit risk losses.When the row is on the economy,default rates declining,banks reduce provisions pro-cyclically,which further expand banks' lending impulses.When in economic downturn,cumulative risk in economic updown began to release,banks began to increase provision to take.When provision is unable to cover losses,banks' capital is bound to be eroded.Bank lending began to shrink.Pro-cyclical provisions comes from accounting standards's no-forward looking.To ease the regulatory capital of the pro-cyclicality and risk accumulation,countercyclical capital regulation is required.Countercyclical capital regulation includes the direct method and the indirect method.Direct methods include counter-cyclical multiplier easing the cycle of minimum capital,countercyclical capital buffers,conserving capital buffers,forward-looking provisioning,etc.Indirect methods including the risk rating and accounting standards along the cycle.conserving capital buffers and forward looking provisioning and the release of countercyclical capital buffers can be used to prevent excessive profit distribution,inadequate provision made on bank capital erosion in economic downturn,preventing the recession the cycle of credit contraction and increasing financial stability.Countercyclical capital regulation can inhibit economic trip on credit expansion depending on the bank expection,risk preferences,excess capital and bank financing capacity and financing cost.Countercyclical regulatory capital impact on credit is asymmetrical.The timing of countercyclical capital buffer and variable selection is the key to countercyclical capital regulation.As an indirect financing and developing country,it is also realistic to link credit to the accumulation of CREDIT/INDUS as a capital buffer variable relevance in China.When the economy goes into a recession phase,release of capital buffer requires to be forward-looking and rapidly,in order to prevent a credit crunch.But when you release the buffer of capital choice of variable is a challenge.Regulators is not a passiver to adapt to the regulation,or to use regulation rules to proactive risk management,or by regulatory arbitrage to escape the regulatory capital.In order to avoid regulatory arbitrage and increase the effectiveness of countercyclical capital regulation,the regulatory system needs to improve diversity:in addition to improving the quality of capital,the introduction of leverage regulation,introduction risk to salary systems,also need to introduce market discipline mechanisms,such as increased disclosure,takeover and market mechanisms in order to improve the effect of incentive compatibility of regulatory.Counter-cyclical capital regulation alone is not enough for regulation of credit,maintain financial stability.Central Bank monetary policy action is required to control credit countercyclically under the perspective of liquidity.Financial essence is its liquidity,liquidity harbours pro-cyclicality of nature.Macro-liquidity imbalances can affect market liquidity and institutional liquidity,which would weaken the countercyclical regulating credit effects.Thereforce,liquidity risk management requires not only strengthen institutions,you also need to manage macro-liquidity from the source in order to increase the effectiveness of monetary policy adjustment credit.This requires Central Bank economic trip on credit and money supply to shrink.In the phase of economic recession,especially in times of crisis,Central Bank need to inject liquidity into the markets and institutions to prevent the credit crunch and expansion of crisis.