Bank Regulations Bank Regulations Are ChangingAre Changing

For Better or Worse? For Better or Worse?

Agree with continuous need Agree with continuous need to test effectiveness to test effectiveness

• By which metric? Stability? Profits? Intermediation ? By which metric? Stability? Profits? Intermediation ? Employment? Employment?

• Using what information? Using what information? – State of regulationState of regulation– State of supervisory practices State of supervisory practices – Impact of “supervisory allies”:Impact of “supervisory allies”:

• Good governanceGood governance• Good accounting and auditingGood accounting and auditing• Other “preconditions” Other “preconditions” • A regulatory and supervisory framework that takes these allies into A regulatory and supervisory framework that takes these allies into

account account • No unduly high expectations of regulation per se: regulation No unduly high expectations of regulation per se: regulation

cannot do it all. No regulatory/supervisory system claims to cannot do it all. No regulatory/supervisory system claims to even want to prevent all bank failures. Effectiveness of the even want to prevent all bank failures. Effectiveness of the banking system is not seen to be the sole result of good/bad banking system is not seen to be the sole result of good/bad regulation. Role of banking system in the economy is not the regulation. Role of banking system in the economy is not the first responsibility of regulation and supervision. But…nor first responsibility of regulation and supervision. But…nor should R&S hinder banks playing their proper role should R&S hinder banks playing their proper role

Question would be easier to Question would be easier to answer if regulations were answer if regulations were

the only element of change: the only element of change: however: however: • The balance between public and private The balance between public and private

“banking discipline” is shifting: “banking discipline” is shifting: – more responsibility on banks, more reliance on market more responsibility on banks, more reliance on market

discipline, more risk based regulation and supervision discipline, more risk based regulation and supervision – See: revised Basel Core Principles, Basel II, ongoing See: revised Basel Core Principles, Basel II, ongoing

Basel Committee work on risk-based supervision Basel Committee work on risk-based supervision – More emphasis on good corporate governanceMore emphasis on good corporate governance– And other private “allies” such as accounting and And other private “allies” such as accounting and

auditingauditing

• So: public versus private: a false dichotomy? So: public versus private: a false dichotomy? Effective supervision a “public – private Effective supervision a “public – private partnership”? partnership”?

Besides: what Besides: what isis “Private “Private monitoring”?monitoring”?

• Interbank markets?Interbank markets?Investors? Investors? Financial media?Financial media?Depositors large and small?Depositors large and small?

• All have different interests All have different interests • All have different monitoring needs and All have different monitoring needs and

techniquestechniques• Markets and depositors have different Markets and depositors have different

incentives from supervisors/regulators:incentives from supervisors/regulators:• Private interests versus public goodPrivate interests versus public good

Banking standards are Banking standards are becoming more becoming more

sophisticated and more sophisticated and more cognizant of limitationscognizant of limitations• Risk based supervisionRisk based supervision

• Macro-prudential approaches: stability Macro-prudential approaches: stability oriented, versus complianceoriented, versus compliance

• Revised Basel Core Principles: more risk Revised Basel Core Principles: more risk management, corporate governancemanagement, corporate governance

• Basel II: banks’ own responsibilities, Basel II: banks’ own responsibilities, individual capital levels, disclosure and individual capital levels, disclosure and market discipline. market discipline.

So: less scope for misalignment of private So: less scope for misalignment of private versus public incentivesversus public incentives

Policy Considerations Policy Considerations • Given different incentives markets/public: Given different incentives markets/public:

clear role for R&Sclear role for R&S• Reinforce good business practice, don’t Reinforce good business practice, don’t

make banks a “public agency” (cash cow, make banks a “public agency” (cash cow, data factory, administrator of the BOP, cop )data factory, administrator of the BOP, cop )

• Don’t expect R&S to “do it all”, i.e. one and Don’t expect R&S to “do it all”, i.e. one and only guardian of financial sector stabilityonly guardian of financial sector stability

• How can “allies” help, including banks’ own How can “allies” help, including banks’ own governance and risk management, markets, governance and risk management, markets, auditors, auditors,

• Define expectations, and measure Define expectations, and measure effectiveness against those expectations effectiveness against those expectations

Taking the research agenda Taking the research agenda further further

• Review supervisory practices and their Review supervisory practices and their effectivenesseffectiveness

• In particular risk based approach;In particular risk based approach;• Review significance of “preconditions” and Review significance of “preconditions” and

other elements of the operating environment; other elements of the operating environment; • Review impact of banks’ risk management Review impact of banks’ risk management

practices;practices;• Review impact of good bank governance;Review impact of good bank governance;• Effectiveness of “allies” in exercising Effectiveness of “allies” in exercising

disciplinediscipline