RT Journal Article
SR Electronic
T1 A Certification Model for Regulatory Arbitrage: <em>Will Regulatory Arbitrage Persist under Basel III?</em>
JF The Journal of Fixed Income
FD Institutional Investor Journals
SP 39
OP 56
DO 10.3905/jfi.2011.21.2.039
VO 21
IS 2
A1 Tobias Berg
A1 Bernhard Gehra
A1 Michael Kunisch
YR 2011
UL https://pm-research.com/content/21/2/39.abstract
AB Based on anecdotal evidence, regulatory arbitrage was a major catalyst of the recent financial crisis. However, regulatory arbitrage is both theoretically and empirically not yet adequately explored. This article develops a theoretical model of regulatory arbitrage. The model is based on a set up where regulatory risk weights act as a certification of the riskiness of a bank’s opaque balance sheet. When regulatory risk weights are misspecified, regulatory arbitrage for the (informed) banks exists. The authors empirically demonstrate that regulatory arbitrage opportunities between the trading business and the loan business existed under the Basel I and Basel II framework and are likely to subsist under the Basel III regime. Their analysis is based on the so-called asset correlation parameter that plays a crucial role for capital requirements under Basel II and Basel III.TOPICS: Exchanges/markets/clearinghouses, VAR and use of alternative risk measures of trading risk, developed markets [Europe]