ABSTRACT
This study examines the reaction of Korean banks’ procyclical behaviour to the adoption of the Basel III accord, which imposes a global capital framework on banks, and the sensitivity of Korean banks’ reactions depending on their capital structures prior to the adoption of the accord. Employing the random-effects panel data approach, we find that the procyclicality of banks, in terms of the capital adequacy ratio, profitability, and insolvency risk, is mitigated after the adoption of the accord. This change is only evident for banks with low capital adequacy ratios before the regulatory reform. Our findings suggest that the Basel III accord effectively mitigates bank procyclicality and that banks’ sensitivity to the reform becomes greater when their capital adequacy ratios are lower. The policy implications of the adoption in emerging and transitional economies are discussed, given the heterogeneous reaction of Korean banks to the international regulatory reform.
Notes
1 The BIS (Citation2019) explains the rationale for both capital buffer requirements as follows: ‘The capital conservation buffer was introduced to ensure that banks have an additional layer of usable capital that can be drawn down when losses occur … [while] The countercyclical capital buffer (CCyB) aims to protect the banking sector from periods of excess aggregate credit growth that has often been associated with the build-up of system-wide risks.’
2 Another major issue regarding the Basel system is financial sector liquidity. Central banks have tried to resolve this issue by injecting substantial amounts of money into the economy through a policy of quantitative easing. However, this study primarily deals with the procyclicality changes following the introduction of the Basel III framework, and further extended analyses may be carried out regarding the liquidity issue in future studies.
3 This is the reason why we analyse Korean banking and financial markets after 2000. Before 2000, the financial regime in the Korean market was totally different from that in the post-AFC period. Further, Korean financial and banking data before 2000 are not credible.
4 For further information regarding the financial market in Korea, refer to the following studies: Chun, Cho, and Ryu (Citation2018, CitationForthcoming), Chung, Cho, Ryu, and Ryu (Citation2019), Chung, Kang, and Ryu (Citation2018), Han, Kutan, and Ryu (Citation2015), Kim, Cho, and Ryu (Citation2018a, Citation2018b), Lee and Ryu (Citation2019), Lee, Ryu, and Kutan (Citation2016), Ryu, Kim, and Ryu (Citation2019), Ryu, Ryu, and Yang (Citation2020), Ryu and Yu (CitationForthcoming), Seo, Kim, and Ryu (Citation2019), Seok, Cho, and Ryu (Citation2019a, Citation2019b), Shim, Chung, and Ryu (Citation2018), and Yu and Ryu (Citation2019).
5 We also carry out the fixed-effects panel data analysis and the dynamic panel data analysis, using the generalised method of moments (GMM) estimation to avoid the omitted variable bias and potential endogeneity issues, respectively. The dynamic GMM model employs the lagged terms of the dependent variables as instrumental variables (Arellano & Bond, Citation1991; Larcker & Rusticus, Citation2010). We find that the results are robust.