The macroeconomic implications of the new Basel accord

This paper assesses the macroeconomic implications of Basel II in light of recent development in the literature. It argues that although Basel II is likely to strengthen banks' incentives to control their risk-taking, it may reduce credit supply to certain borrowers, such as small- and medium-sized enterprises (SMEs) and firms based in developing countries. Furthermore, Basel II may increase procyclical fluctuation of bank loans while weakening the monetary transmission mechanism during recessions. A widespread adoption of the "trough-the cycle" risk models may mitigate these problems, but not completely eliminate them. This papaer also considers whether monetary policy can be used to counter effectively the procyclicality problem inherent in Basel II.