Regulatory capital and bank risk-resilience amid the Covid-19 pandemic: How are the Basel reforms faring?

In this paper, we address a long-standing policy question of whether higher levels of regulatory capital, ex-ante, makes banks risk-resilient in times of severe economic downturns. Using the Covid-19 crisis as an exogenous shock to the banking system in a difference-in-difference setting, the results indicate that banks with robust pre-crisis regulatory capital ratios are less risky (have a lower insolvency risk) relative to less-capitalized banks amid the crisis period. Further analyses provides evidence consistent with the presence of a potential credit supply channel. Overall, the results suggests that the post 2007-09 Basel reforms have succeeded, to some extent, in strengthening the risk-resilience of banks during the Covid-19 economic fallout.