Systemic Risk and Optimal Regulatory Architecture
IMF Working Papers, August 1, 2011
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Bibliographic details
- Authors: Marco A Espinosa-Vega, Rafael Matta, Charles M. Kahn, Juan Sole
- Published: August 1, 2011
- Series: IMF Working Papers
- DOI: https://doi.org/10.5089/9781462306244.001
Summary
- Until the recent financial crisis, the safety and soundness of financial institutions was assessed from the perspective of the individual institution.
- The financial crisis highlighted the need to take systemic externalities seriously when rethinking prudential oversight and the regulatory architecture.
- Current financial reform legislation worldwide reflects this intent.
- Reforms have overlooked the need to also consider regulatory agencies' forbearance and information sharing incentives.
- Using a political economy model that explicitly accounts for systemic connectedness and regulators' incentives, the authors show:
- Under an expanded mandate to explicitly oversee systemic risk, regulators would be more forbearing towards systemically important institutions.
- When some regulators have access to information regarding an institution's degree of systemic importance, these regulators may have little incentive to gather and share it with other regulators.
- A unified regulatory arrangement can reduce the degree of systemic risk vis-รก-vis a multiple regulatory arrangement, under conditions the paper characterizes.
Major findings
- Regulatory forbearance increases for systemically important institutions when regulators have an explicit mandate to oversee systemic risk.
- Information asymmetries among regulators can lead to strategic withholding of information about institutions' systemic importance.
- Unified regulatory architecture can, under specified conditions, lower systemic risk relative to a fragmented, multiple-regulator setting.
Policy implications and recommendations
- Regulatory reform should incorporate incentives related to forbearance and information sharing, not only mandates focused on systemic oversight.
- Design of regulatory architecture should consider mechanisms to align incentives for information gathering and sharing across regulators.
- Consideration of unified regulatory arrangements is warranted where the conditions identified by the model hold, to reduce systemic risk.
Model and analysis features
- Political economy model explicitly incorporates:
- Systemic connectedness among financial institutions.
- Regulators' incentives, including forbearance and information acquisition/sharing.
- The model generates comparative results between unified regulatory arrangements and multiple regulatory arrangements with asymmetric information.
Publication and metadata (as provided)
- Authors: Marco A Espinosa-Vega, Rafael Matta, Charles M. Kahn, Juan Sole
- Date: August 1, 2011
- Series: Working Paper No. 2011/193
- Issue: 193
- Volume: 2011
- Pages: 24
- DOI: https://doi.org/10.5089/9781462306244.001
- Stock No: WPIEA2011193
- ISBN: 9781462306244
- ISSN: 1018-5941
- Subjects: Asset and liability management, Asset valuation, Banking, Distressed institutions, Financial crises, Financial institutions, Financial sector policy and analysis, Lender of last resort, Liquidity, Systemic risk, Tax incentives
- Keywords: Asset valuation, bank B, Bank regulation, Distressed institutions, financial condition, Financial reform, Forbearance, Information sharing, Lender of last resort, Liquidity, liquidity shock, mover accent, regulator arrangement, regulator setting, Systemic risk, unified regulator, WP
IMF Working Paper "Systemic Risk and Optimal Regulatory Architecture" (Working Paper No. 2011/193) by Marco A Espinosa-Vega, Rafael Matta, Charles M. Kahn, and Juan Sole, August 1, 2011.