The purpose of this paper is to look closely at the possible impact of Basel Ⅱ on the  loan supplying behavior of domestic banks and consequently on economic growth. It is expected that banks will either raise loan interest rates or reduce loans against low-rated companies when the Basel Ⅱ comes into affect increasing the minimum capital  requirement for loans. However, to verify the impact on the economy of the Basel Ⅱ, one should predict how the capital requirements for banks would change for different levels of credit rate, as well as the capital requirement of the bank industry. In this study, we calculate the change in the minimum capital requirements and the loan supplying behavior of domestic banks, based on data on the exposure and default probabilities for different internal credit rate levels.

More specifically, we examine the loan supplying behavior in two directions. Firstly, we estimate Basel Ⅱ’s impact on loan interest rates provided assuming that banks maintain the same risk-adjusted rate of return as before by marking up the regulation costs due to Basel Ⅱ. Secondly, we estimate Basel Ⅱ’s impact on the loan amounts provided given that banks might maintain a regulation-related burden as before by reducing loans instead of marking up. In addition, for this latter case, the macroeconomic impact of Basel Ⅱ is analyzed using the KERI 2005 Model for four scenarios according to regulation method.

Contrary to the general expectations of the banking industry, our study finds that the minimum capital requirements will be reduced only when the retail banking activities for small and medium enterprises are not considered. Even in such a case, the expansion of consumer loans tend to have a positive effect on the economy. Considering the retail banking, where this effect is reinforced, it can be concluded that the overall impact of the Basel Ⅱ on the economy is positive.

The implication of our research is twofold. First, it removes the somewhat baseless nervousness in the general mood by presenting a possible positive impact of the Basel Ⅱ. Secondly, it identifies precisely those factors that might contribute to the positive impact of the Basel Ⅱ.

Nonetheless, we recommend prudent interpretation of our results because our analysis leaves out the operational risk regulation of the Basel Ⅱ, and the loan market for small and medium enterprises and the fact that consumers may become saturated. Moreover, there is a possibility that the default probabilities used in this research may be a little too optimistic.