Global Financial Development Report 20192020: Bank Regulation and Supervision a Decade after the Global Financial Crisis by The World Bank

Author:The World Bank
Language: eng
Format: epub

There must be institutions in place and mechanisms available for market participants to exercise market discipline. Information generation and provision of ancillary financial services, such as credit ratings, tend to have high fixed costs. These require a certain level of market development, which can be curtailed by the lack of scale and insufficient market depth—important hindrances in developing countries. Enabling a competitive environment that makes it easier for depositors and other investors to shift their investments between banks according to their assessments of relative risk is also important. Effective private monitoring also requires strong adherence to the rule of law. In particular, enforcing debt contracts and covenants, holding directors and managers accountable for fraud, and protecting minority shareholders from self-dealing all require a strong, independent judiciary and laws protecting shareholder and creditor rights.

Significant cross-country differences in institutional environments imply that proportionality must be kept in mind in thinking about the rules and regulations meant to strengthen market discipline. Simplified prudential rules and requirements can be applied for small or noncomplex institutions in order to avoid excessive compliance costs. This possibility is especially important for smaller banks in developing countries, which may lack the economies of scale for the compliance function. Proportionality should apply not only to regulations but also to supervision. Smaller developing countries may lack informational and operational infrastructure and face steep scale curves in the supervision and enforcement functions. Proportionality must be kept in mind to use supervisors’ scarce resources effectively, thereby maximizing the desired social objectives. This need may in some cases imply a lower degree of stringency and simplified enforcement processes for smaller and less complex institutions.

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