The effects of macroprudential policy on imperfect banking competition

Abstract This paper studies the stabilization properties of time-varying capital requirements in an environment dominated by an oligopolistic banking sector, where banks accumulate capital subject to a leverage adequacy cost. The results indicate that macroprudential policy can stabilize fluctuations in business and credit cycles by controlling the loan rate, thereby influencing the spread within the banking system. A welfare analysis shows that the welfare gains from macroprudential policy depend on the type of shock hitting the economy, and that higher banking competition can amplify these benefits. The findings also highlight that time-varying capital requirements should not substitute for monetary policy, but rather complement it in addressing financial imbalances and adverse sectoral shocks.