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The empirics of banking regulation

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  • Tchana Tchana, Fulbert

Abstract

This paper empirically assesses whether banking regulation is effective at preventing banking crises. We use a monthly index of banking system fragility, which captures almost every source of risk in the banking system, to estimate the effect of regulatory measures (entry restriction, reserve requirement, deposit insurance, and capital adequacy requirement) on banking stability in the context of a Markov-switching model. Our methodology is less prone to selection and simultaneity bias which are common in this type of study. We apply this method to the Indonesian banking system, which has been subject to several regulatory changes over the last couple of decades, and at the same time, has experienced a severe systemic crisis. We draw the following findings from this research: (i) entry restriction reduces crisis duration as well as the probability of such an occurrence; (ii) larger reserve requirements reduce crisis duration, but increase banking instability; (iii) deposit insurance increases banking system stability and reduces crisis duration; (vi) capital adequacy requirement improves stability and reduces the expected duration of banking crises. Finally, we find that previous studies present a negative simultaneity bias for deposit insurance and a negative selection bias for capital adequacy requirement. We can infer from these findings that any relevant assessment of the impact of a regulation, which has been introduced during the recent period of banking instability, should account for simultaneity.

Suggested Citation

  • Tchana Tchana, Fulbert, 2014. "The empirics of banking regulation," Emerging Markets Review, Elsevier, vol. 19(C), pages 49-76.
  • Handle: RePEc:eee:ememar:v:19:y:2014:i:c:p:49-76
    DOI: 10.1016/j.ememar.2014.04.003
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    Cited by:

    1. Isabel Argimón & Jenifer Ruiz, 2010. "The effects of national discretions on banks," Working Papers 1029, Banco de España;Working Papers Homepage.
    2. TCHANA TCHANA, Fulbert, 2008. "Regulation and Banking Stability: A Survey of Empirical Studies," MPRA Paper 9298, University Library of Munich, Germany, revised 30 May 2008.
    3. Fendel Ralf & Stremmel Hanno, 2016. "Characteristics of Banking Crises: A Comparative Study with Geographical Contagion," Journal of Economics and Statistics (Jahrbuecher fuer Nationaloekonomie und Statistik), De Gruyter, vol. 236(3), pages 349-388, May.
    4. Wajih Khallouli & Mahmoud Sami Nabi, 2010. "Financial Crises’ Prevention and Recovery," Working Papers 529, Economic Research Forum, revised 06 Jan 2010.
    5. Francesco Marchionne & Beniamino Pisicoli & Michele Fratianni, 2017. "Regulation, financial crises, and liberalization traps," Mo.Fi.R. Working Papers 143, Money and Finance Research group (Mo.Fi.R.) - Univ. Politecnica Marche - Dept. Economic and Social Sciences.

    More about this item

    Keywords

    Banking crises; Banking System Fragility Index; Banking regulation; Markov-switching regression;

    JEL classification:

    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • L16 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - Industrial Organization and Macroeconomics; Macroeconomic Industrial Structure
    • C25 - Mathematical and Quantitative Methods - - Single Equation Models; Single Variables - - - Discrete Regression and Qualitative Choice Models; Discrete Regressors; Proportions; Probabilities

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