Bank Regulation
Lecture 11: Handout
The Regulation of Banks
Date: 28 April 2004
Module: International Banking
Why Regulate Banks?
Banks are intermediaries between money suppliers and those who need money.
Commercial banks are most heavily regulated financial institutions.
Five main reasons for regulation:
I. The first is to ensure the safety and soundness of banks. The purpose is to maintain I) domestic and II) international confidence, III) protect depositors and ultimately taxpayers and IV) maintain financial stability. With safety and soundness, a financial system provides for the efficient allocation of the nations’ resources because the payments system is reliable and banks extend credits that stimulate economic growth.
Most bank debt is held by small creditors. In the view of many bankers and central bankers, regulation is motivated, in particular, by the need to protect these small depositors who are unsophisticated and unable to understand the balance sheet and off – balance sheet activities of the banks. The banking regulator represents the depositors. The central bank monitors the banks’ activities ex ante seeing to it that the bank meets capital adequacy requirements to ensure that there is enough capital to protect the depositors and making sure that the bank is doing the right thing in terms of risk management and ex post – in case of a crisis intervening by closing or restructuring the bank.
This goal is generally accomplished by limiting risk taking at individual institutions and by the government’ willingness to act as a lender of last resort.
II. The second objective of bank regulation is that Central Banks use the regulation to provide monetary stability. This is evidenced by efforts to control the growth in the nation’s money supply and maintain the efficient operation of the payments system. Control over money supply may be implemented through reserve requirements. At present banks in Azerbaijan pay 10% reserve
The Regulation of Banks
Date: 28 April 2004
Module: International Banking
Why Regulate Banks?
Banks are intermediaries between money suppliers and those who need money.
Commercial banks are most heavily regulated financial institutions.
Five main reasons for regulation:
I. The first is to ensure the safety and soundness of banks. The purpose is to maintain I) domestic and II) international confidence, III) protect depositors and ultimately taxpayers and IV) maintain financial stability. With safety and soundness, a financial system provides for the efficient allocation of the nations’ resources because the payments system is reliable and banks extend credits that stimulate economic growth.
Most bank debt is held by small creditors. In the view of many bankers and central bankers, regulation is motivated, in particular, by the need to protect these small depositors who are unsophisticated and unable to understand the balance sheet and off – balance sheet activities of the banks. The banking regulator represents the depositors. The central bank monitors the banks’ activities ex ante seeing to it that the bank meets capital adequacy requirements to ensure that there is enough capital to protect the depositors and making sure that the bank is doing the right thing in terms of risk management and ex post – in case of a crisis intervening by closing or restructuring the bank.
This goal is generally accomplished by limiting risk taking at individual institutions and by the government’ willingness to act as a lender of last resort.
II. The second objective of bank regulation is that Central Banks use the regulation to provide monetary stability. This is evidenced by efforts to control the growth in the nation’s money supply and maintain the efficient operation of the payments system. Control over money supply may be implemented through reserve requirements. At present banks in Azerbaijan pay 10% reserve