Working Paper: CEPR ID: DP7733
Authors: Thorsten Beck
Abstract: The recent crisis has led to a thriving academic and policy debate on the future regulation of financial institutions and markets. This paper argues that the objective of securing financial stability should be balanced with the goal of fostering financial deepening and efficiency, especially in emerging markets. This would require a market-harnessing rather than market-restricting approach to regulation; it would imply price-based capital and liquidity regulation, rather than restrictions and prohibitions; it would focus on forcing financial institutions to internalize the external costs of their risk-taking decisions rather than suppressing financial innovation. Beyond changes in the capital and liquidity requirements and corporate governance structures, the overhaul of failure resolution systems should top the reform agenda, to better address incentives problems and impose market discipline, even on large, too-important-to-close financial institutions. Reform areas should include both legal and regulatory frameworks and incentive structures for regulators and supervisors.
Keywords: bank regulation; financial crisis
JEL Codes: G18; G28
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| regulatory frameworks (G38) | financial stability outcomes (G28) |
| deregulation of the past 30 years (L51) | increased inequality (F61) |
| deregulation of the past 30 years (L51) | financial crisis (G01) |
| insufficient regulatory oversight (G18) | aggressive risk-taking (G41) |
| insufficient regulatory oversight (G18) | governance failures (G38) |
| enhanced regulation (G18) | reduced aggressive risk-taking (D91) |
| enhanced regulation (G18) | reduced governance failures (G38) |
| market-harnessing approach (D40) | financial stability (G28) |
| market-harnessing approach (D40) | innovation (O35) |
| overhaul of failure resolution systems (P11) | address incentive problems (M52) |
| financial liberalization (F30) | growth (O40) |
| financial liberalization (F30) | crisis probability (H12) |