Regulation and Supervision: An Ethical Approach

44 Pages Posted: 18 Aug 2013 Last revised: 24 Dec 2013

See all articles by Edward J. Kane

Edward J. Kane

Boston College - Department of Finance; National Bureau of Economic Research (NBER)

Date Written: November 18, 2013

Abstract

This essay shows that government credit-allocation schemes generate incentive conflicts that undermine the quality of bank supervision and eventually produce banking crisis. For political reasons, most countries establish a regulatory culture that embraces three economically contradictory elements: politically directed subsidies to selected bank borrowers; subsidized provision of explicit or implicit repayment guarantees for the creditors of firms that participate in the credit-allocation scheme; and defective government monitoring and control of the distribution of burdens and subsidies that the other two elements produce. In the years leading up to the panic of 2008, technological change and regulatory competition simultaneously encouraged incentive-conflicted supervisors to outsource much of their due discipline to credit-rating firms and encouraged lenders to securitize their loans in ways that pushed credit risks on poorly underwritten loans into corners of the universe where supervisors and credit-ratings firms would not see them.

Keywords: banking regulation, desupervision, regulatory competition, banking crisis, regulatory culture, regulatory norms

JEL Classification: D72, E58, G21, G28

Suggested Citation

Kane, Edward J., Regulation and Supervision: An Ethical Approach (November 18, 2013). Available at SSRN: https://ssrn.com/abstract=2311717 or http://dx.doi.org/10.2139/ssrn.2311717

Edward J. Kane (Contact Author)

Boston College - Department of Finance ( email )

Fulton Hall
Chestnut Hill, MA 02467
United States
520-299-5066 (Phone)
617-552-0431 (Fax)

National Bureau of Economic Research (NBER)

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Cambridge, MA 02138
United States

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