The Return of the Rogue

48 Pages Posted: 13 Feb 2009 Last revised: 1 Apr 2009

Abstract

The "rogue trader" - a famed figure of the 1990's - recently has returned to prominence due largely to two phenomena. First, recent U.S. mortgage market volatility spilled over into stock, commodity, and derivative markets worldwide, causing large financial institution losses and revealing previously hidden unauthorized positions. Second, the rogue trader has gained importance as banks around the world have focused more attention on operational risk in response to regulatory changes prompted by the Basel II Capital Accord. This Article contends that of the many regulatory options available to the Basel Committee for addressing operational risk it arguably chose the worst: an enforced self-regulatory regime unlikely to substantially alter financial institutions' ability to successfully manage operational risk. That regime also poses the danger of high costs, a false sense of security, and perverse incentives. Particularly with respect to the low-frequency, high-impact events - including rogue trading - that may be the greatest threat to bank stability and soundness, attempts at enforced self-regulation are unlikely to significantly reduce operational risk, because those financial institutions with the highest operational risk are the least likely to credibly assess that risk and set aside adequate capital under a regime of enforced self-regulation.

Keywords: rogue trading, operational risk, enforced self-regulation, Basel, bank regulation

JEL Classification: K00, K22, K23, K33, K42

Suggested Citation

Krawiec, Kimberly D., The Return of the Rogue. Arizona Law Review, Vol. 51, 2009; UNC Legal Studies Research Paper No. 1342669; Duke Law School Public Law & Legal Theory Paper No. 237. Available at SSRN: https://ssrn.com/abstract=1342669

Kimberly D. Krawiec (Contact Author)

Duke University School of Law ( email )

210 Science Drive
Box 90362
Durham, NC 27708
United States

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