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Prudent Banks and Creative Mimics: Can we tell the difference?

Author

Listed:
  • Powell, Andrew

    (Inter American Development Bank)

  • Maier, Antonia

    (University of Warwick)

  • Miller, Marcus

    (University of Warwick)

Abstract

The recent financial crisis has forced a rethink of banking regulation and supervision and the role of nancial innovation. We develop a model where prudent banks may signal their type through high capital ratios. Capital regulation may ensure separation in equilibrium but deposit insurance will tend to increase the level of capital required. If supervision detects risky behaviour ex ante then it is complementary to capital regulation. However, nancial innovation may erode supervisors' ability to detect risk and capital levels should then be higher. But regulators may not be aware their capacities have been undermined. We argue for a four-prong policy response with higher bank capital ratios, enhanced supervision, limits to the use of complex financial instruments and Coco's. Our results may support the institutional arrangements proposed recently in the UK.

Suggested Citation

  • Powell, Andrew & Maier, Antonia & Miller, Marcus, 2012. "Prudent Banks and Creative Mimics: Can we tell the difference?," CAGE Online Working Paper Series 76, Competitive Advantage in the Global Economy (CAGE).
  • Handle: RePEc:cge:wacage:76
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    File URL: http://www2.warwick.ac.uk/fac/soc/economics/research/centres/cage/manage/publications/76.2012_miller.pdf
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    References listed on IDEAS

    as
    1. Barth,James R. & Caprio,Gerard & Levine,Ross, 2008. "Rethinking Bank Regulation," Cambridge Books, Cambridge University Press, number 9780521709309, December.
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    More about this item

    Keywords

    Bank Regulation; Financial Crises; Information; Signaling.;

    JEL classification:

    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • G38 - Financial Economics - - Corporate Finance and Governance - - - Government Policy and Regulation
    • L51 - Industrial Organization - - Regulation and Industrial Policy - - - Economics of Regulation

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