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Finance and Development

Surveys of Theory, Evidence and Policy

Edited by Christopher J. Green, Colin Kirkpatrick and Victor Murinde

In this valuable new book, a distinguished group of authors takes stock of the existing state of knowledge in the field of finance and the development process. Each chapter offers a comprehensive survey and synthesis of current issues. These include such critical subjects as savings, financial markets and the macroeconomy, stock market development, financial regulation, foreign investment and aid, financing livelihoods, microfinance, rural financial markets, small and medium enterprises, corporate finance and banking.
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Chapter 6: Banking Regulation after Recent Financial Crises: Lessons for Developing and Developed Countries

David T. Llewellyn


6. Banking regulation after recent financial crises: lessons for developing and developed countries David T. Llewellyn* 1. INTRODUCTION The objective of this chapter is to consider the experience of recent banking crises in both developed and developing countries, and to draw lessons most especially with respect to the regulation and supervision of banks, and the design of an optimal ‘regulatory regime’. This will be done by setting out a series of general principles designed to lower the probability of banking distress. Just as the causes of banking crises are multidimensional, so the principles of an effective regulatory regime also need to incorporate a wider range of issues than externally imposed rules on bank behaviour. What will be termed a ‘regulatory regime’ also includes the arrangements for intervention in the event of bank distress and failures. This is because they have incentive and moral hazard effects which potentially influence future behaviour of banks and their customers and the probability of future crises. The focus of the chapter is a consideration of alternative approaches to achieving the objectives of regulation: systemic stability and consumer protection. A central theme is that what are often regarded as ‘alternatives’ are in fact complements within an overall regulatory strategy. As the regulatory regime is wider than the rules and monitoring conducted by regulatory agencies, the skill in constructing a regulatory strategy lies in how the various components of the regime are combined. When a particular regulatory problem emerges, the instinct of a regulator is often...

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