Risks, Rules, and Institutions: A Process for Reforming Financial Regulation

Abstract:     
Reforming regulation of the financial sector is currently among the most immediate concerns of domestic and international policymakers. Proposals for such reform are proliferating, and the official sector appears committed to adopting at least some meaningful reforms in the near-term. Broadly speaking, this movement toward regulatory reform has emphasized the need for structural reforms, though it has also yielded numerous narrower substantive proposals, most of which target the perceived causes of the current crisis. Most notably, this movement has been carried along by a strong sense of the moment. Against this tide of policymaking energy, this symposium contribution urges caution and restraint. Rather than add to the still-growing body of institutional and substantive proposals, this article articulates a strategic approach to regulatory reform. It argues that the process of reforming financial regulation should begin with a comprehensive, granular study of emergent post-crisis financial markets. While such an approach would be time-consuming and labor-intensive, it is essential for identifying and measuring the on-going risks within financial markets and for responding to changes in private behavior wrought by the current crisis. Without such an inventory-taking, policymakers will run the risk of commingling crisis-containment with regulatory reform and may end up designing a retrospective framework for financial regulation. A comprehensive post-crisis inventory of financial markets would provide a meaningful basis for articulating the desirable substance and scope of financial regulation and for comparing the optimal framework with the existing one. These steps would ideally precede consideration of reforms to the institutional structure of financial regulation. Ideally, such a process of regulatory reform would reduce the potential for unnecessary or unproductive reforms and help policymakers achieve the right balance between efficient regulation and crisis-prevention going forward.

Keywords: financial regulation, banking law, regulation, regulatory reform, financial services

JEL Classifications: D73, D78, E53, G10, G18, G2, G20, G28, H10, K20, L51

Accepted Paper Series