Is it Market-Discipline or Self-Discipline? The Risk Return Relationship in New Zealand Retail Banks
William R. Wilson
Massey University - Department of Economics & Finance
Lawrence C. Rose
John F. Pinfold
Massey University - Department of Commerce
January 22, 2010
The prudential regulation of banks in New Zealand relies largely on the public disclosure of relevant risk information. The risk return relationship in retail banks is empirically tested to assess the effectiveness of the disclosure regime in moderating excessive risk taking by banks. A significant relationship is found between bank deposit rate risk premiums and disclosure risk indicators suggesting disclosure results in the moderation of risk taking in New Zealand banks. As the relationship is strongest at disclosure balance date, rather than disclosure publication, it must be as a result of self-discipline and not market-discipline. It is suggested self-discipline is more effective than either market or regulator discipline. Market and regulator discipline is redundant if management are effectively managing their bank. Management are best placed to supervise and apply discipline as they have ready access to timely and accurate information, enabling them to apply prompt corrective action. If evidence of market discipline were found, it could indicate prudential regulation of New Zealand banks was ineffective and bank management were not acting as expected by the architects of the disclosure regime. This finding is a significant and valuable contribution, especially in a time of financial turmoil when many are calling for greater regulation and official supervision of banks.
Number of Pages in PDF File: 32
Keywords: Bank Prudential Regulation, Market-Discipline, Self-Disciline
JEL Classification: G2, G21, G28working papers series
Date posted: January 25, 2010
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