BANKING REGULATIONS

Banking Regulations: Answers for Questions

Banking Regulations: Answers for Questions

The current philosophy of banking regulation—that you can make the system safe by making individual institutions safe—is an unsatisfactory basis for insuring the stability of the system as a whole.” Explain what the authors (Brunnermeier, Crockett, Goodhart, Persuad, and Shin) meant by this statement and discuss some of the possible implications for financial sector regulation?

The rapid changes facing the financial world (disintermediation, internationalization, progress technology, increasing complexity of products) necessitate an ongoing effort to regularize the financial system. The discussion of the U.S. banking system and the cross-border issues in Europe are the tip of a very large iceberg. The globalization of banking raises fundamental questions regarding regulatory competence at a national level (Kroszner 2000 7-18). In practical terms, this means that Country A may have legitimate concern when a bank chartered by Country B reaches across Country A's borders to market financial services to Country A's citizens. If Country B lacks an effective system of regulation and supervision, Country A may suffer. Moreover, Country A may lack the ability to impose any type of effective supervision on Country B's hank (because most of its operations are in Country B).

On the heels of the spectacular collapse of BCCI, the Basel Committee addressed these concerns in 1992 by issuing the Minimum Standards for the Supervision of International Banking Groups and their Cross-Border Establishments (Minimum Standards). The Minimum Standards establish four main principles (Eatwell 2003 2-20). These principles have acted as a driving force for banking regulation in the current wake of financial crisis:

All international banks should be supervised by a home country authority that capably performs consolidated supervision.

The creation or cross-border banking establishments should receive the prior consent of both the host country and home country authority.

Home country authorities should possess the right to gather information from the cross-border establishments.

If the host country determines that any of these three standards is not being met, it can impose restrictive measures or prohibit the establishment of banking offices .

The new accord only highlights the risk estimations of the individual banks based on the historical data and it does not take into account the possibility of unexpected event, thus underestimates the potential loss. It takes into consideration the minimum capital require for expected events but leave the scope of capital low probability high impact events (Laeven and Valencia 2008 5-80). The compliance of new Basel accord is expensive and complex with inefficient supervision in some countries. However, on the positive side the improved risk management along with improved market efficiency in U.S. and European banks will lead to reduced interest rate distortions. In U.K. banks market also we can conclude that with the IRB approach, it will improve the risk sensitivity and better risk management (Laeven and Valencia 2008 5-80).

What have been some of the main driving forces behind the regulation of international banking? Why were the Basel I and Basel II Accords revised? Does Basel III take care ...