Can Soft Regulation Prevent Financial Crises?: The Dutch Central Bank's Supervision of Behavior and Culture

57 Pages Posted: 14 Nov 2018

See all articles by John M. Conley

John M. Conley

University of North Carolina School of Law

Lodewijk Smeehuijzen

VU University Amsterdam - Faculty of Law

Cynthia A. Williams

York University - Osgoode Hall Law School

Deborah Rupp

University of Illinois at Urbana-Champaign - School of Labor & Employment Relations; University of Illinois at Urbana-Champaign - Department of Psychology

Date Written: November 2, 2018

Abstract

Financial regulation has traditionally been “hard”: national legislatures and regulators (and sometimes international bodies) require certain kinds of behavior and forbid others, on pain of business sanctions, fines, or even criminal penalties. When a financial crisis happens, the usual after-the-fact response is more hard regulation. That pattern goes back at least to the 1929 market crash that precipitated the Great Depression.

But financial crises still occur, leading many observers to wonder if what the financial world needs is a way to identify those pathological risk-takers in advance and, perhaps more importantly, to make sure that the financial institutions that employ them discover and control them. Such an approach to financial governance might be characterized as “soft” regulation: rather than relying on prescribing, proscribing, and punishing specific actions, it would focus on education and persuasion (still backed up by the threat of sanctions) to encourage financial institutions to head off excessive risk-taking before it occurs.

This Article presents in-depth study of the first major effort to put this theory into practice: De Nederlansche Bank’s (DNB; the central bank of the Netherlands) novel initiative to promote a healthy corporate culture in the large banks that is supervises. Despite its radical originality, this initiative has been almost entirely unreported in the U.S. legal and business literatures. DNB’s traditional mandate has been to ensure the stability and integrity of the national financial system by promulgating and enforcing regulations and supervising individual banks. In response to the 2007-08 financial crisis, of 2007-2008 DNB has expanded its supervision to include the evaluation of both individual behavior and group-level culture — “Behaviour & Culture” (B&C) supervision. We have investigated the history and theoretical roots of B&C supervision; interviewed both the regulators and the regulated about their practical perspectives; explored relevant themes in law and the social sciences; and considered the implications of B&C supervision for banking regulation elsewhere. We conclude that, while the response to B&C supervision has been generally positive, its tangible effect remains unproven. Moreover, its relatively positive reception may depend on the specific business culture of the Netherlands, which casts doubt on whether it can be exported to larger banking systems.

Keywords: financial crisis, regulation, central banks, business culture, banking reform

JEL Classification: F, G, K, Z1

Suggested Citation

Conley, John M. and Smeehuijzen, Lodewijk and Williams, Cynthia A. and Rupp, Deborah, Can Soft Regulation Prevent Financial Crises?: The Dutch Central Bank's Supervision of Behavior and Culture (November 2, 2018). Available at SSRN: https://ssrn.com/abstract=3277678 or http://dx.doi.org/10.2139/ssrn.3277678

John M. Conley (Contact Author)

University of North Carolina School of Law ( email )

Van Hecke-Wettach Hall, 160 Ridge Road
CB #3380
Chapel Hill, NC 27599-3380
United States
919-962-8502 (Phone)

Lodewijk Smeehuijzen

VU University Amsterdam - Faculty of Law ( email )

De Boelelaan 1105
1081 HV Amsterdam
Netherlands

Cynthia A. Williams

York University - Osgoode Hall Law School ( email )

4700 Keele Street
Toronto, Ontario M3J 1P3
Canada
416-736-5545 (Phone)

Deborah Rupp

University of Illinois at Urbana-Champaign - School of Labor & Employment Relations ( email )

504 East Armory Avenue
Champaign, IL 61820-6297
United States

University of Illinois at Urbana-Champaign - Department of Psychology ( email )

603 East Daniel
Champaign, IL 61820
United States

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