The work undertaken in this study empirically explores the determinants of regulatory bank capital bu®ers, and how they in°uence bank decisions. Focusing on bank capital management under the Basel I framework, this thesis serves to address some of the con- cerns that have been voiced regarding the implementation of the new regulation (Basel II) and the broader economic e®ects that could result. In particular, the research chapters of this thesis examine the cyclical behavior of European bank capital bu®ers, the long run relationship between bank capital bu®ers and charter values, and the simultaneous adjustments of capital and risk. In each of the research chapters, we acknowledge the endogenous nature of the capital decision of a bank, and assume that banks will de¯ne an internally optimal probability of default (a function of risk and capital) to be managed over the long term. Adjustment costs, illiquid markets, together with the costs associated with a regulatory breach contribute as factors in a banks internal decision when setting a target capital ratio. Treating capital in this way, we note that it is the amount of capital held above the requirement that determines a banks attitude towards risk. Importantly, this work has shown that excessive risk taking is rarely a consequence of insu±cient capital.
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