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Systemic Risk, International Regulation, and the Limits of Coordination

  • Kara, Gazi

    ()

    (Board of Governors of the Federal Reserve System (U.S.))

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    This paper examines the incentives of national regulators to coordinate regulatory policies in the presence of systemic risk in global financial markets. In a two-country and three-period model, correlated asset fire sales by banks generate systemic risk across national financial markets. Relaxing regulatory standards in one country increases both the cost and the severity of crises for both countries in this framework. In the absence of coordination, independent regulators choose inefficiently low levels of macro-prudential regulation. A central regulator internalizes the systemic risk and thereby can improve the welfare of coordinating countries. Symmetric countries always benefit from coordination. Asymmetric countries choose different levels of macro-prudential regulation when they act independently. Common central regulation will voluntarily emerge only between sufficiently similar countries.

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    Paper provided by Board of Governors of the Federal Reserve System (U.S.) in its series Finance and Economics Discussion Series with number 2013-87.

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    Length: 59 pages
    Date of creation: 16 Sep 2013
    Date of revision:
    Handle: RePEc:fip:fedgfe:2013-87
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