Capital and reserve requirements to control liquidity shocks: an agent based perspective

Abstract

In this paper, we present an agent based model of the banking system, including banks households and a central bank. The model is able to address some relevant economic issues regarding liquidity shocks, shocks on assets, inequality wealth distributions and herding effects. By analyzing the effects that different policy configurations have on the system, we show that capital requirements are more effective than cash reserve restrictions in order to guarantee the robustness of the banking system. However, in case of high economic instability, liquidity requirements become ineffective. Also, we find that when the central bank is acting as a lender of last resource, capital requirement regulation becomes irrelevant, or even negative for economic growth. We also show that inequality among households wealth has a negative effect in both stability and growth. Finally, the model confirms that panic and herding among households accelerates the banking system breakdown.