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Optimal Preventive Bank Supervision Combining Random Audits and Continuous Intervention

Author

Listed:
  • Mohamed Belhaj

    () (Centrale Marseille (Aix-Marseille School of Economics), CNRS & EHESS)

  • Nataliya Klimenko

    () (Aix-Marseille Université, Greqam)

Abstract

Early regulator interventions into problem banks are one of the key suggestions of Basel II. However, no guidance is given on their design. To fill this gap, we outline an incentive-based preventive supervision strategy that eliminates bad asset management in banks. Two supervision techniques are combined: continuous regulator intervention and random audits. Random audit technologies differ as to quality and cost. Our design ensures good management without excessive supervision costs, through a gradual adjustment of supervision effort to the bank's financial health. We also consider preventive supervision in a setting where audits can be delegated to an independent audit agency, showing how to induce agency compliance with regulatory instructions in the least costly way.

Suggested Citation

  • Mohamed Belhaj & Nataliya Klimenko, 2012. "Optimal Preventive Bank Supervision Combining Random Audits and Continuous Intervention," AMSE Working Papers 1201, Aix-Marseille School of Economics, Marseille, France.
  • Handle: RePEc:aim:wpaimx:1201
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    References listed on IDEAS

    as
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    More about this item

    Keywords

    banking supervision; random audit; incentives; moral hazard; delegation.;

    JEL classification:

    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation

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