Monitoring the Supervisors: Optimal Regulatory Architecture in a Banking Union
41 Pages Posted: 5 Jun 2013 Last revised: 17 Apr 2014
Date Written: April 17, 2014
Abstract
I study the optimal architecture of bank supervision in a federal system. A central supervisor gets information about a bank, for instance through stress-testing, and decides whether an on-site examination should be performed by a local or a central authority. Local supervisors have lower inspection costs, but do not internalize cross-border externalities. The optimal degree of centralization depends on the severity of these externalities, the opacity of the supervised bank and the specificity of its assets. The market reacts to the chosen architecture, so that a centralized supervision endogenously increases market integration and cross-border externalities, strengthening the need for centralized supervision. The economy can be trapped in an equilibrium with low supervision and integration, while a forward-looking design of the supervisory architecture would coordinate economic agents on a superior equilibrium.
Keywords: banking union, single supervisory mechanism, bank supervision, bank resolution, regulatory federalism
JEL Classification: D53, G21, G28, G33, G38, L51
Suggested Citation: Suggested Citation