Bank lending, real estate bubbles & basel II

The aim of the paper is to show how major failures in the real estate sector have been accompanied by banking failures in the UK and elsewhere during the 1973 banking crisis and the 1990 economic recession. We argue that prudence needs to be reinforced by some form of regulation in order to prevent a repetition of the property market collapses and banking crises of the 1970s and early 1990s. The Basel Committee on Banking Supervision acknowledges the fact that conventional lending concentration to industries such as commercial real estate is a common source of major credit problems for banks around the world. We briefly refer to the old capital adequacy framework, commonly known as Basel I, and we also review the new framework, Basel II (Pillar 1), which has been recently initiated. We especially focus on banking supervisors ’ views with regard to real estate lending in Basel II (Pillar 1) and our scepticism regarding these views. This paper represents our effort to build on the existing literature on bank regulation and banking crises and our contribution will hopefully be useful for the financial system regulator, real estate professionals, shareholders and investors. JEL Classification: K23, G21, L85