A difference-in-difference approach was used to investigate whether central bank independence (CBI) reforms matter for inflation, based on a novel dataset including the possible occurrence of such reforms in 132 countries during the period 1980 to 2005. CBI-reforms are found to have contributed to bringing down high inflation rates where those existed, but they seem unrelated to performance in low-inflation countries.
The author address the question of optimal capital ratio in banking, particularly the fact that banks' risk-weighted capital is substantially larger than the stipulated reserve requirements by the Bank of International Settlements. With a factor model for the value of entrepreneurs' projects and costly state verification as asymmetric information structure, the author shows that banks choose to hold capital reserves that are almost large enough to eliminate the risk for their depositors. The reason is that the cost of lowering the risk for the bank, up to a point, is lower than their gain from cheaper deposits. Banking risk stems from borrowers being correlated. This has been an important lesson during the ongoing financial crisis where several banks underestimated the correlation in their loan portfolios and suffered severe credit losses. This could also explain why small regional banks in Sweden often have more than twice the capital ratio of their nationwide competitors.