Bank Capital Redux: Solvency, Liquidity and Crisis

Authors: Òscar Jordà, Björn Richter, Moritz Schularick and Alan M. Taylor

Review of Economic Studies, Vol. 88, No 1, 260-286, January, 2021

What is the relationship between bank capital, the risk of a financial crisis, and its severity? This paper introduces the first comprehensive analysis of the long-run evolution of the capital structure of modern banking using newly constructed data for banks’ balance sheets in 17 countries since 1870. In addition to establishing stylized facts on the changing funding mix of banks, we study the nexus between capital structure and financial instability. We find no association between higher capital and lower risk of banking crisis. However, economies with better capitalized banking systems recover faster from financial crises as credit begins to flow back more readily.