The macroeconomic impact of Basel III on the Italian economy

Abstract

This paper provides an assessment of the costs of complying with Basel III for the Italian economy. The main findings are the following. For each percentage point increase in the capital ratio implemented over an eight-year horizon, the level of GDP would decline by 0.00-0.33% (0.03-0.39% if credit rationing is also accounted for), corresponding to a reduction of annual output growth in the transition period of 0.00-0.04 percentage points (0.00-0.05 percentage points if credit rationing is considered as well). Compliance with the new liquidity standards causes an additional slowdown of annual GDP growth of at most 0.02 percentage points. If banks felt forced to speed up the transition to the new capital rules by the beginning of 2013, the fall in output would be larger and would take place beforehand. Long-run costs of achieving the new capital standards are even lower, slightly less than 0.2%; those needed to comply with the target liquidity ratio are of a similar size. The above estimates suggest that the economic costs of Basel III are not huge and become negligible if compared with the potential benefits that can be reaped from reducing the frequency of systemic crises and the amplitude of boom-bust cycles.Basel III, Modigliani-Miller theorem, flow/stock costs of equity finance, capital/liquidity requirements