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Banking Supervision and External Autditors: What works best?

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Listed:
  • Donato Masciandaro
  • Davide Romelli

Abstract

What are the pros and cons of involving external auditors in banking supervision? This paper investigates the relationship between banking supervision and the involvement of external auditors from a theoretical and empirical perspective. We first provide a simple principal-agent framework that highlights the importance of several country-specific institutional characteristics in determining an optimal level of involvement of external auditors in banking supervision. We then propose a new index that captures the degree of involvement of external auditors in financial sector supervision. We construct this index for a broad set of 142 countries and show that countries characterized by higher levels of auditor involvement in supervision are less likely to experience a financial crisis. These results provide new and original empirical evidence on the link between regulatory and supervisory institutional designs and the probability of financial distress.

Suggested Citation

  • Donato Masciandaro & Davide Romelli, 2017. "Banking Supervision and External Autditors: What works best?," BAFFI CAREFIN Working Papers 1746, BAFFI CAREFIN, Centre for Applied Research on International Markets Banking Finance and Regulation, Universita' Bocconi, Milano, Italy.
  • Handle: RePEc:baf:cbafwp:cbafwp1746
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    References listed on IDEAS

    as
    1. Mohamed Belhaj & Nataliya Klimenko, 2012. "Optimal Preventive Bank Supervision: Combining Random Audits and Continuous Intervention," Working Papers halshs-00790464, HAL.
    2. Alberto Alesina & Guido Tabellini, 2007. "Bureaucrats or Politicians? Part I: A Single Policy Task," American Economic Review, American Economic Association, vol. 97(1), pages 169-179, March.
    3. Barth, James R. & Caprio, Gerard Jr. & Levine, Ross, 2004. "Bank regulation and supervision: what works best?," Journal of Financial Intermediation, Elsevier, vol. 13(2), pages 205-248, April.
    4. Masciandaro, Donato & Pansini, Rosaria Vega & Quintyn, Marc, 2013. "The economic crisis: Did supervision architecture and governance matter?," Journal of Financial Stability, Elsevier, vol. 9(4), pages 578-596.
    5. Barth, James R. & Caprio, Gerard Jr. & Levine, Ross, 2012. "Guardians of Finance: Making Regulators Work for Us," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262017393.
    6. Ouarda Merrouche & Erlend Nier, 2010. "What Caused the Global Financial Crisis; Evidenceon the Drivers of Financial Imbalances 1999: 2007," IMF Working Papers 10/265, International Monetary Fund.
    7. Fabian Valencia & Luc Laeven, 2012. "Systemic Banking Crises Database; An Update," IMF Working Papers 12/163, International Monetary Fund.
    8. Dalla Pellegrina Lucia & Masciandaro Donato, 2009. "The Risk-Based Approach in the New European Anti-Money Laundering Legislation: A Law and Economics View," Review of Law & Economics, De Gruyter, vol. 5(2), pages 931-952, December.
    9. Humphrey, Christopher & Loft, Anne & Woods, Margaret, 2009. "The global audit profession and the international financial architecture: Understanding regulatory relationships at a time of financial crisis," Accounting, Organizations and Society, Elsevier, vol. 34(6-7), pages 810-825, August.
    10. Patrick Velte & Carl-Christian Freidank, 2015. "The link between in- and external rotation of the auditor and the quality of financial accounting and external audit," European Journal of Law and Economics, Springer, vol. 40(2), pages 225-246, October.
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    More about this item

    Keywords

    Banking Supervision; Auditing; Delegation; Economics and Law;

    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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