Simons Lectures Flashcards
(69 cards)
1
Q
What are Governments policies
A
- Fiscal Policy
o Goals: active fiscal policy: correct recessions, countercyclical behaviour
o Tools: taxes & spending - Monetary Policy
o Goal: price stability (FED: unemployment)
o Tools: open market operations: repo transactions - Financial Policy
o Goal: financial stability
o Tools: regulation, supervision
2
Q
Why regulate & supervice?
A
- Asymmetric information
- Before the transaction: Adverse selection problem
o Borrowers with the highest risk (undesirable outcomes) are the ones actively seeking loans
o Challenge to identifying and selecting safe borrowers - After the transaction: moral hazard problem
o Risk (hazard): immoral activities of borrower
o Hidden action: action of agent can not be observed by principal
o Hidden information: principal can observe actions, but cannot assess their quality
3
Q
What is Asymmetric information?
A
Asymmetric information occurs when one party in a transaction or relationship possesses more or superior information compared to the other. This imbalance can lead to an unfair advantage, where the more informed party can exploit this disparity to their benefit.
4
Q
What is the Adverse selection problem?
A
- one party in a transaction has more or better information, leading to an imbalance that can result in suboptimal outcomes
- can lead to market failure
- encourages inefficiency as resources are allocated improperly
- may lead to higher costs for products or services as sellers compensate for increased risk
- Examples: Insurance individuals who are high-risk are more likely to seek insurance, while low-risk individuals might opt out if premiums are too high, this leads to a pool of insured individuals that is disproportionately high-risk, raising costs for insurers and potentially making the market unsustainable
- mitigating: screening (gathering additional information to reduce incertainty), signaling (better informed paries voluntarly provide information to signal their quality: warranties on used cars, regulation: compulsory health insurance, risk pooling: spreading risk across a large group
5
Q
What is a Moral Hazard?
A
- one party takes on more risk because they are shielded from consequences of their actions
- key characteristics: asymmetric information & shift in behaviour
- encourages to irresponsible behaviour
- costs are transferred to the other party
- can lead to inefficiencies or market distortions
- mitigating: incentive alignment (both parties share risks: deductibles, copayments in insurance policies), monitoring, performance-based rewards, transparency, contracts with penalties (clawbacks for bonuses)
6
Q
Why regulate & supervice?
depositors view
A
- Difficult select and monitor borrowers
- Asymmetric information
o Adverse selection problem (pick the right bank)
o Moral hazard problem (how to monitor the banks behaviour) - Free rider problem (difficult for individual depositor to monitor the behaviour and financial health of banks, monitoring costs, others indirectly benefiting from information)
- If not solved: not an optimal financial intermediation, less credit than economy needs->high costs
- If not solved: high propensity for depositors to panic and produce bank runs
- Desire for reputation may control problems
- If not sufficient: impose regulations, supervisions, increase flow of information, monitor and discipline banks
7
Q
Taxonomy of regulation & supervision (8)
A
- Entry: screen out dishonest or excessive risk-taking entrepreneurs
- Capital requirements control moral hazard by limiting leverage
- Limits on economies of scale restrict branching and horizontal mergers
- Limits on economies of scope and diversification constrain banks’ portfolio choices or activities to constrain risk-taking or conflicts of interest
- Deposit insurance monitoring is delegated to another party, avoid bank runs, lender of last resort
- Disclosure requirements reinforce market discipline, opaqueness vs. transparency
- Examinations government-supplied auditing to examine proprietary information, complements disclosure and ensures compliance with regulations
- Bank supervision enforce regulations and control risk by imposition of penalties, rules-based or discretion-based
8
Q
The 14 areas of regulation & supervision according to the world bank
A
- Entry into banking controlled by legal authorities, take action against banking without a license
- Ownership legal authorities can oppose ownership
- Capital legal authorities can demand higher capital levels
- Activities restriction on activities
- External auditing requirements external auditor
- Bank governance board of directors have to be approved by supervisor, compensation of board directors is evaluated as part of the supervisory process -> no excessive risk-taking
- Liquidity and diversification requirements contingency funding plans, stress testing the banks liquidity management
- Depositor (savings) protecting schemes deposit insurance scheme
- Asset classification, provisioning and write-offs
- Accounting and information disclosure
- Discipline /Problem institutions /exit regulations regarding bank resolution
- Supervision can change organizational structures of banks
- Banking sector characteristics high concentration of big banks, holding assets, TBTF
- Consumer protection restriction on advertising and selling practices
9
Q
Switzerland’s legal system (6)
A
- International Treaties human rights convention
- Swiss constitution (Bundesverfassung)
- Swiss laws swiss parliament: National & Ständerat
- Ordinances federal council, Bundesrat
- Circulars by FINMA “soft law”
- Self regulation “soft law”, Swiss bankers Association: Banks code of conducts VSB, sustainable finance self regulation
10
Q
Financial Market Supervision Act FINMASA
Finanzmarktaufsichtsgesetz FINMAG
A
- Legal basis for FINMA, in force since 2009
- Background: Bancassurance “Allfinanz”
- Consolidation of Bundesamt für Privatversicherungen, Eidgenössische Bankenkommission & Kontrollstelle für die Bekämpfung der Geldwäschereid
- Objective by the law (Art. 5): protecting creditors, investors and insured persons as well as ensuring the proper functioning of the financial market
- Principles of regulation (Art.7): circulars, costs, effect on competition, international minimum standards
- Tasks: Granting licences for banks, audits, granting licences for auditors
11
Q
Tasks of SNB
National Bank Act NBA
National Bank ordinance NBO
A
- Price stability
- Financial market participants are obliged to provide information to National Bank
- To protect financial stability the National Bank can oversee systemically important central counterparties
- SNB is responsible for systemically important financial market infrastructure (payment system, central securities depository)
12
Q
What are the Goals of Banking Act / Banking Law
A
- Protect depositors
- Protect banks
- Protect economy
13
Q
Banking Act / Banking law
What does it define? (3)
A
- Not banks: stock brokers, asset managers
- FinTech Regulation / Sand Box: savings smaller than 1m, not in the borrowing and lending business
- Bank Secrecy: imprisoned up to 3 years or fined, discloses confidential information
14
Q
Tax evasion vs. Tax fraud
A
- Tax evasion: non-declaration, not a criminal offence, violation of the law, criminal offence in many countries, fined
- Tax fraud: intentional use of false documents or manipulation to commit tax evasion, criminal offence, prison or fine
15
Q
Automatic information exchange
A
- 107 countries
- CH since 2018
- Information: Account number, name, address, date of birth, tax identification number, interest, dividends, recepts from insurance policies, credit balances on accounts, proceeds from the sale of financial assets
- Small tax amnesty: regularizing the capital once in a lifetime without a fine
16
Q
Pandora papers
A
- 11.9 million files from companies hired by wealthy clients to create offshore structures and trusts in tax heavens
- Expose offshore affairs of 35 world leaders
- Use of shell companies to hold luxury items such as yachts, incognito bank accounts
17
Q
Deposit protection
A
- Privileged deposits up to CHF 100’000
- Banks holding privileged deposits have to join a self-regulation organization: pay out deposits within 20 days, maximum of 6 billion have to be ensured
18
Q
Esisuisse
A
- Self regulatory organization, organized as an association, banks are members
- Insurance is per depositor per banks
- Insured are: balances of private individuals, commercial enterprises, public sector offices
- Problematic if large banks fail or several banks fail at the same time
19
Q
Deposit insurance good or bad according to Mishkin
A
Good
* Preventing bank runs
* Preventing financial instability
* Confidence in the banking system
Bad
* Moral hazard: banks taking excessive risks, less monitoring through depositors, leading to riskier banking behaviour
* Systemic cost: poorly managed deposit insurance systems create significant costs for taxpayers
Recommendations
* Limited coverage
* Strong regulatory framework
* Risk-based insurance premiums
20
Q
How to calculate the banks asset/capital ratio?
A
Capital (Liability without debt) / Assets
21
Q
History of Big banks in CH
A
- Second half of 19th century & became universal banks
- Financing infrastructure, trade, industry, railway
- By 1918 eight banks, after great depression 5. Mergers in 1990s, leading two UBS and CS
22
Q
Banking law 1934
A
- Supervisor: Federal Banking Commission supervises via external auditors
- Market entry required formal check by FBC, not a banking license
- Easier to open a bank than a restaurant
- Unclear what would happen if banks did not comply with law
- Capital: capital / liability ratios -> required capital
- Definition of capital: regulatory capital
23
Q
Swiss Capital Regulation 1934/1935
A
24
Q
Capital Coverage Ratio
A
Regulatory Capital (what counts as capital) / Required Capital
25
Changes in Capital requirements
* Intense lobbying of the FBC by Banks and Swiss Bankers Association from 1955 onwards
* Collaborative regulation: compromise
26
Hidden reserves
* Undervalued assets: increases in values or excessive write-offs, typical assets: securities, property, tangible assets
* Overvalued liabilities: excessive provisions for bad debts or depreciations, fictional creditors
* Purpose (bank view): absorbing losses, profit smoothing, stable dividend payments, reputations, tax planning
27
Economic Relevance of the Financial Sector (CH)
* 448’200 FTE Jobs in the financial sector
* 5.4% share of economy
* 12% of total fiscal revenues
* 9.1% contribution of financial sector to GDP
* Approximately -11’000 jobs in Banks since 2013
* Assets are 4x Switzerlands yearly GDP
28
Flows of Funds through the financial system
29
Financial Intermediation
What is and who are?
* Process of matching supply and demand of capital
* Financial intermediaries facilitate the flow of capital between borrowers and lenders
* Definition of financial intermediaries according to the Swiss Anti-Money Laundering Act:
o Banks
o Fund managers
o Investment companies
o Insurance institutions
o Securities dealers
o Casinos
o Persons who on a professional basis accept or hold deposit assets belonging to others or who assist in the investment or transfer of such assets
30
Benefits of Financial Intermediaries
* Reduce transaction costs, economies of scale
* Liquidity, maturity and lot size transformation function
* Service function
* Mitigating the problem of asymmetric information: before transaction: adverse selection, after the transaction (moral hazard)
31
Financial Markets
* Ongoing information processing and revaluation of financial contracts
* No maturity transformation needed, assets can be sold
* Financial instruments allow investors to trade and divide various risks independently
32
Important elements in financial intermediation
* Financial service provider
* Customers of financial services
* Financial markets
* Payment system
* Securities clearing system
* Communications system
33
SIX Group
* Securities and exchanges
o Stock exchange (SIX Swiss Exchange)
o Securities clearing, post-trade processes
* Payments
o Point of Sales payments, e-commerce payments, ATM
o Interbank clearing on behalf of Swiss National Bank
* Financial information
o Process and distribute financial data
* Owned by 120 financial institutions, around 4000 employees
34
Mortgage Markets
* Market volume 2023: CHF 1242 billion
* Market volume of banks 1179 billion (95%)
* Other examples of loan segments: consumer loans (market share non banks 1-2%), SME loans (<1%), loans to public and near public entities (15%)
* Market share of neo banks about 10% for basic retail banking services
35
External funds for nonfinancial businesses
US: Bonds more important, less bank loans
Corporate Loans in Switzerland:
- Bank balance sheets 80-100 bn/year, -
- private debt market 2.5m/year,
- marketplace lending 2bn/year,
- emissionen bonds 20bn/year
36
Major Players in Swiss Banking
37
Swiss Banking Structure
Cantonal Banks
Big Banks
Regional Banks and savings banks
Raiffaisen banks
Stock exchange banks
Other banking institutions
Foreign-controlled banks
Branches of Foreign Banks
Private bankers
- - Big real estate crisis in the 90's ->harmed the regional banks
- Private Bankiers: Financial Crisis 2008: Changed corporate form, because of personal liability
38
Banking groups
* Big banks
* Cantonal banks
* Foreign banks
* Raiffeisen Banks
* Banks specialized in securities and asset management business
* Regional and saving banks
* Private bankers
* Other Banks
39
Characteristics of banking business models
* Credit/lending business
* Deposits and deposit business (savings accounts)
* Asset management and investment advice
* Payment transactions
* Securities business (stock exchange transactions)
* Underwriting business (issuing bonds or shares)
* Financial analysis & consulting
40
Big Banks
* Emerge in the 19th century, financial industry & trade
* From industrial to universal banks at the turn of the century
* From 8 to 2 banks, great depression and its legacy
* Since 1998 only two banks left
* Since 2023 only UBS left
* Universal banks, wealth management, investment banking, private & retail banking
41
The new UBS/CS
* Main bank of 19% of private persons in CH, another 10% second/third bank
* 26% of SME in CH
* Market share 2003 33.8% decreased to 26% in 2019
42
Offshore hub
* CH is leader in offshore wealth management
* Many private banks and foreign banks
* Many fund managers, institutional investors, family offices
* >120B
43
Cantonal Banks
* 24 banks
* Participation of a canton of at least 1/3 (votes and capital), defined in banking act
* Only three banks without government guarantee (BCV, BCGE, BEKB)
* Smaller bank usually active in deposit & lending business, larger banks are universal banks
* Regional orientation as a characteristic of cantonal banks
44
Regional and Savings Banks
* 58 Banks
* Focus on deposit & lending business
* Entris and Esprit groups
45
Raiffeisen Banks
* 219 banks, organized as individual cooperatives
* Raiffeisen Schweiz as a central bank for the Raiffeisen banks
* 3.7m customers of which are 2.06 cooperative members
* Strong presence in rural areas, growth in urban areas
* Massive growth in mortgage 4.7% p.a. last 10 years, others 3.4% p.a.
46
PostFinance
* Owned by swiss government (Post), but not explicit government guarantee
* One of the largest deposit taking banks
* Major player in swiss payment system
* 2.5m customers
* Not allowed to do loan mortgage business (Postorganisationsgesetz)*
47
Economic policy, lessons from history, Bernanke
* Economic prosperity depends on financial stability
* Policy makers must respond forcefully, creatively, and decisively to severe financial crises
* Crises that are international in scope require an international response
* History is never a perfect guide
48
The Basel I Framework
1974/75 Basel Committee on Banking supervision established
* Globalization, Bank Herstatt 1974, currency trading, liberalization of financial markets
1982 default crisis Mexico /Argentina / Brazil market to market accounting put pressure on solvency
1988 Basel I
* Objective: Introduce a framework for capital adequacy
* Key Features: minimum capital requirements 8% of risk weighted assets RWA (Stocks & Real Estate 100%, Loans 50%, Cash/Treasuries 0%)
* Focused on credit risk, using a simple risk-weighting system
* Emphasis on banks’ ability to absorb losses
* Implementation in Switzerland in 1991 and 1994
49
The Basel II Framework
2004 Basel II
* Objective: Improve risk sensitivity and address limitations of Basel I
* Three Pillars Framework:
o Minimum Capital Requirements Enhanced focus on credit, operational, market risks
o Supervisory Review Strengthened oversight of banks’ internal risk assessments
o Market Discipline Increased transparency through disclosure requirements
* Key Improvements Introduced Internal Ratings-Based (IRB) (Value at Risks), approaches for credit risks, Enhanced capital requirements for operational risk
50
The Basel III Framework
2010-2011 Basel III
* Objective: Address weaknesses exposed by the 2008 financial crisis
* Major Enhancements:
o Capital Quality: Focused on Tier 1 capital, primarily common equity Tier 1 (CET1)
o Capital Buffers: Introduced capital conservation and countercyclical buffers
o Leverage Ratio Non-risk-based leverage ratio as a backstop to RWA-based capital requirements
o Liquidity Standards
Liquidity Coverage Ratio (LCR): ensure banks have sufficient high-quality liquid assets to survive a 30-day stress scenario
Net Stable Funding Ratio (NSFR): Address longer-term liquidity mismatches
o Systemic Risk Measures: Additional capital for Global Systemically Important Banks (G-SIBs)
51
Capital / Assets Ratio over time (world
* General decline in capital/assets ratio
* Growing reliance on leverage (increased borrowing compared to capital)
* 1930: Great depression
* 1980s: financial deregulation, globalization, savings & loan crisis US
52
Capital / Assets Ratio over time (CH
* Capital – to – asset ratio
* C/RWA Ratio: Capital – to-risk-weighted assets ratio
* 1930s Spike: response to the Great Depression, Banks may reduced leverage or increased capital buffers to weather financial shocks
* Post 1935 steady decline, reflects global trend toward higher financial leverage
* Stabilization period: 1950s onward: decline slows, ratios stabilize at low levels
* Big Banks vs. All Banks: Big Banks have consistently lower ratios, thinner capital buffers, reflecting their perceived lower risks or reliance on implicit support mechanisms
* Late 1980s uptick: Basel Accords, slightly increased ratios
53
Why is TBTF a problem?
* Moral hazard: banks may take on excessive risks because they expect government bailouts in the event of failure.
* Systemic Risk: domino effect, disruption in financial markets, damage broader economy
* Taxpayer burden
* Economic concentration TBTF institutions can dominate the market, reducing competition & increasing the risk of oligopolistic behaviour
* Uneven Playing field: smaller banks lack implicit guarantees making competition unfair
54
What are the main incentives for TBTF banks?
* Risk-taking bailed out, incentivized to engage in higher risk activities, potential losses are socialized, profits remain privatized
* Growth & Expansion become more interconnected to ensure to remain essential to the financial system, thus increasing leverage over regulatory bodies
* Profit maximization higher returns with more risky business fields like proprietary trading or investing in risky assets
* Lobbying influence regulatory decisions, can lead to favourable or less strict rules
* Funding advantage: cheaper capital access due to expected government support
55
What were the main components of the TBTF regulation?
* Dodd-Frank Act: Orderly Liquidation Authority (wind down without bailout), Living wills (resolution planning), Volcker rule (restricts proprietary trading & limit investments in hedge funds or private equity), enhanced capital requirements
* Basel III: Higher capital requirements, leverage ratio, liquidity coverage ratio
* Higher capital requirements: Systematic important banks are required to hold more capital than other banks to absorb potential loss. Swiss regulation goes stricter than Basel III. SIBs must be at least 19% of risk-weighted assets. Capital requirement composed by going-concern capital (continue operating in times of stress) and gone-concern capital (in the event of failure to ensure resolution)
* Leverage ratio: ratio of equity to total assets without risk weighting: higher than Basel III (3%), at least 5%
* Resolution (living wills) & recovery planning: how bank would stabilize in the event of a crisis without threatening financial stability
* Emergency plans: guarantee the continuation of domestic critical functions even in the event of failure. These plans are subjected to FINMA review and approval
* Total loss & absorbing capacity (TLAC): These requirements are set by financial stability board (FSB) for globally systematic important banks G-SIBs). It requires banks to have sufficient capital to absorb losses and allow for an orderly resolution but also assess structural, operational and financial disentangle.
* Liquidity requirements stricter liquidity coverage ratios (LCR)
* Supervision and stress testing SNB and FINMA regularly subject SIBs to rigorous stress testing to assess their ability to withstand economic shocks
* Contingent convertible bonds (AT1 & bail-in bonds) TBTF promotes to use of these bond as part of a banks capital structure. These are debt instruments that convert into equity when a banks capital falls below a certain threshold
* Regulatory authority & international coordination: FINMA plays a key role in the supervision and regulation of TBTF institutions. Together with SNB ensure compliance with capital and resolution planning requirements.
56
How do you assess the success & challenges of the TBTF regulation?
* Reduction in systemic risk: through higher capital buffers, liquidity requirements & stronger supervision
* Capital & liquidity buffers: successful stress tests to assess the banks’ performance under adverse economic conditions
* Reduced bailouts & moral hazard reduced occurrence of large-scale government bailouts & ability of regulators to wind down failing banks using resolution mechanisms without public financial support
* CS Case: current regulations alone couldn’t prevent loss of confidence, additional measures like state ownership options in crisis may be needed for full market stability
57
Provide a timeline of the Credit Suisse failure
* Trust issues
* CEO/ Board Member changes
* Scandals (Spying scandal)
* External factors like the SVB collapse
58
Did CS have a liquidity or a solvency problem?
* Liquidity issue: having enough cash flow for immediate needs
* Solvency issue: enough assets to cover all long-term obligation
* In case of CS: Liquidity Issue, CS met regulatory capital requirements
59
Why did CS fail?
* Loss of confidence: scandals, management changes, poor profitability
* Accelerated by market events: U.S. regional bank crises in early 2023 worsened the situation
* Bank run triggered: massive outflow of deposit made recovery impossible without external help (SNB had to lend 54bn)
60
How do you assess the failure of CS in light of the TBTF regulation introduced after the 2007/2008 crisis?
* Strengthened capital & liquidity requirements were insufficient
* Resolution not applied: Fear of deepening the financial crisis lead to state-backed UBS takeover instead
61
Was credit Suisse relevant for the swiss banking market? How do you measure relevance?
* Measure relevance: AuM 1.3 Trillion, Balance Sheet total: CHF 531 Billion, Number of employment: 50’000 employees, client base: diverse range from retail to high-net worth individuals, corporations
* One of two largest banks in Switzerland
* Systemically important bank in Switzerland (substantial assets & critical banking services, failure would lead to significant risks in the financial stability of Switzerland)
* One of the world’s largest wealth managers & 30 gsib’s
62
What is the effect on competition among banks (differentiate between market segments & customers)
* Reducing competition
* Wealth management: higher market concentration reduce options for clients
* Corporate & retail: smaller banks may benefit from less direct competition, opportunities may arises for new players to capture market share especially in the retail banking, many SME relied on both big banks, now they have reduced choices
* Cantonal banks benefited from inflows of client deposits
63
What is planned going forward in terms of the integration into UBS (employees, branches)
* Employee integration: layoffs in overlapping departments (e.g. back-office)
* Branches & Infrastructure: closing branches in overlapping regions
* Culture and business lines: UBS maintains profitable business lines of CS, especially in wealth management but will likely divest or reduce riskier segments such as investment banking
64
What are the key recommendations made by the federal council, expert groups, finma/ubs with regards to regulatory changes?
Expansion of FINMA’s instruments:
* aims to make dealing with systematically important banks more effective
* FINMA enforcement actions announced to the public to create greater transparency & accountability
Earlier intervention possibilities:
* EFD should establish regulatory framework that enables intervention by FINMA preventing banks from falling below the point of viability
* Preventive measures should support transparency with the use of broader data sources
Capital requirements & quality:
* Implement Basel III final for large and systemically important Banks (G-SIBs), the resilience of these banks should be ensured by enforcing higher capital requirements
* Public disclosure of transitional arrangements: When FINMA gives banks temporarily granted relief in capital requirements
* Introduction over double leverage: debt is not only considered at the holding/group level, but also within the internal financial structures, preventing banks from building up hidden risks that endanger the entire system
Crisis Management & access to liquidity
* Strengthen liquidity regulations FINMA was advised to expand the framework for acceptable collateral for extraordinary liquidity assistance & reduce the stigma with using such assistance. This is crucial to ensure stability during crises
* Introduction of a public liquidity backstop (BLP) ensure funding during resolution of SIBs (maintaining critical banking functions during resolution scenarios)
* Consider temporary state ownership
65
What should be the goal of financial regulation?
* Customer protection
* Ensure systemic stability / safety and soundness (market confidence, prevent bank runs)
* Ensure transparency
* Preventing moral hazard
* Increase social welfare
* Preventing market manipulation
* Promoting equal access to capital
* Protect customer against monopolistic exploitation (Banks have access to information that the public doesn't get for example payment informations, they can exploit the system for themselves)
66
Why should we not regulate banks?
* Complexity: Risks are too complex to be covered by simple rules
* Box ticking culture: rules may become the focus rather than the objectives
* balance sheets reflect a point in time: regulatory arbitrage/finding loopholes (example: rules for equity in company for swiss companies and less capital regulations for international companies)
* confrontational relationship: between regulator & regulated firms, cause firms to overreact, excessive efforts at internal compliance out of fear
* moral hazard: banks could take on more risks when there is a lender of last resort/ too-big to fail policies or deposit insurance, could be an incentive for banks to take on more risks, also banks could try to find loopholes for regulations.
* Slows down innovation & thus less efficient
* Barrier to entry
* high costs of regulation get passed on to consumers, this could lead to a higher concentration in the banking sector, also regulatory bodies require fundings from taxpayers
67
What are the two fundamental approaches to bank regulation & pros and cons
* Rules-based (minimum capital standard) vs. Principles based regulation (adequat capital ->regulator controls that)
* Public interest approach (systemic risk) vs. Private interest approach (complexity too high, need to include experts from banking industry)
Switzerland: lobbying in parliament
* Switzerland primarily adopts a principles-based approach: for example swiss banking regulation overseen by swiss financial market supervisory authority. But Switzerland has also some specific rules for example Basel III for align with international standards.
according to Barth/Caprio/Levine two different approaches:
* Public Interest Approach Core Idea: Regulation exists to protect the public and correct market failures.
* Private Interest Approach Core Idea: Regulation is shaped by the interests of specific groups (banks, politicians) rather than the general public. Key Difference: The Public Interest Approach views regulation as a tool for societal good, while the Private Interest Approach sees it as a mechanism that can be co-opted by powerful groups for their own benefit.
68
Learnings of the last financial crisis
* Inadequate capital buffers
* Don’t trust the rating agencies
* Better risk management
* More transparency
* Living walls & resolution plans
* The best-in-class approaches when it comes to rules for the minimum capital or liquidity were not enough. Also not setting minimum required ratios, because no one can determine what the correct level should be.
* Overestimation of the controllability and predictability of risks (risks predictions with models)
* hybrid capital instruments proved to be non-loss-absorbing during the crisis
* Shareholder friendly governance structures lead to the crisis (more leverage, risky businesses in order to higher dividends & bonuses -> claw-back systems, skin in the game (invested pensions fund capital of the employers)
* Tax laws for banks, price the risks of a TBTF "insurance"
* additional regulatory on systematically important financial intermediaries: ladder of penalties (prevent risks of externalities & costs for society)
69
What does an optimal regulatory framework look like (Goodhart)
* Goodhart envisions an optimal regulatory framework as one that minimizes systemic risks without imposing unnecessary burdens on financial institutions. It must be dynamic, proportional, and globally coordinated, ensuring financial stability while fostering innovation and effciency. Importantly, it must align incentives to avoid moral hazard and promote responsible behavior in the financial system.
* Key Elements of an Optimal Regulatory Framework:
1. Focus on Systemic Stability
2. Balancing Market Discipline with Oversight
3. Tailored Regulatory Approaches
4. Preventing Moral Hazard
5. Capital and Liquidity Requirements
6. Resolution and Recovery Planning
7. Transparency and Disclosure
8. International Coordination
9. Continuous Monitoring and Innovation
