Forum for Science, Industry and Business

Sponsored by:     3M 
Search our Site:

 

Effective global regulation – a gargantuan task

18.11.2008
Government ownership of banks – something unthinkable until very recently for the ‘Anglo-Saxon’ model of capitalism –- became a reality early in 2008.

This was a policy response to an unprecedented global financial crisis, aimed at preventing financial meltdown. It succeeded in doing so, according to Professor Panicos Demetriades, an Economist funded by the Economic and Social Research Council (ESRC) at the Department of Economics of the University of Leicester.

The main lesson of Professor Demetriades’ research for the current crisis is that government owned banks should not be privatised before depositors can be confident that an effective system of financial regulation is in place. This is much easier said than done in the context of markets in which the lack of transparency, the complexity of products and international linkages make the design of an effective global regulatory structure a gargantuan task.

Professor Demetriades said, “The signs of large scale bank runs and the collapse of banking systems were clearly visible in the horizon, especially after the collapse of Lehman Brothers. If Lehman Brothers could collapse, others were likely to follow, which explains the panic selling of bank shares that we observed. In situations like these – given information imperfections – even the most prudent banks are affected, hence the danger of financial meltdown was a very real one. As depositors too began to lose faith in private banks, funds fled to the only safe haven – government bonds and government owned banks.”

The presence of deposit insurance did little to reassure depositors. This was in part because deposit insurance is rarely a blanket guarantee of all deposits (e.g. local authorities and businesses are not normally covered). Even if it was one, the prospect of filing for compensation of lost deposits is a much inferior alternative to having one’s money safe in a government owned bank.

Until recently, government ownership of banks was frowned upon as a feature of developing countries. Moreover, it was widely seen as politically motivated. Some economists argued that government ownership of banks is widespread because of the benefits it confers on politicians – hence this is known as the ‘political view of state banks’. They also argued, drawing on cross-country correlations, that it is associated with financial instability and low growth. They therefore concluded that bank privatisation would result in faster economic growth and fewer banking crises. Earlier this year, Leicester University academics Svetlana Andrianova and Panicos Demetriades and Brunel’s Anja Shortland published an article in the Journal of Development Economics which challenges these views. Even though their paper was written with developing countries in mind, most of its conclusions are applicable to the current crisis.

“Recent events”, explains Demetriades “make it easy to see why previous experience on the ‘political view’ of state banks is flawed. The positive correlation that arises in a cross-country relationship between government ownership of banks and financial crises frequently reflects reverse causality i.e. private banks that fail end up under government ownership because no other investor would buy them. Moreover, the financial crisis that preceded the government takeovers of banks is normally followed by severe recessions. To ascribe the blame to governments is like arguing that hospitals are the causes of ill health because they are associated with illness.”

In terms of real world examples, Russia provides a good example in which the state savings bank - Sberbank - is able to attract the largest proportion of deposits while offering deposit rates that are lower than its private sector competitors. Northern Rock – nationalised by the UK government in 2007 - is now another case in point: despite offering low interest rates it was massively oversubscribed and had to turn depositors away.

The paper by Andrianova, Demetriades and Shortland utilises a theoretical model which demonstrates that government owned banks are a safe haven for depositors when regulatory institutions that govern the behaviour of banks are perceived by depositors as weak. At the extreme, the presence of unchecked opportunistic behaviour by private banks results in a complete preference for the government owned bank by all depositors. Privatising the government bank under these circumstances can only result in financial dis-intermediation i.e. depositors withdrawing their funds from the banking system altogether.

Empirical analyis, within the paper utilises data on 108 countries from the World Bank survey on banking practices and regulation, and the World Bank database of governance indicators. The estimations show that regulatory quality and disclosure are inversely related to government ownership of banks. The empirical findings also suggest that increased government ownership is positively associated with prior banking crises frequently involving (private) bank failures.

The paper warns, however, against interpreting this in a naive way: just like in the current crisis, the correlation between government ownership of banks and financial instability often reflects reverse causation i.e. governments tend to take over failed private banks. Hence, the paper concludes that privatisation of government owned banks is not be the best way forward in terms of developing banking systems, where institutions are weak. Institutions building should be the top priority.

Danielle Moore | alfa
Further information:
http://www.esrc.ac.uk
http://www.esrcsocietytoday.ac.uk

More articles from Business and Finance:

nachricht How Strong Brands Translate into Money
15.11.2016 | Kühne Logistics University - Wissenschaftliche Hochschule für Logistik und Unternehmensführung

nachricht Demographic change depresses tax revenues
04.11.2016 | Fraunhofer-Institut für Angewandte Informationstechnik FIT

All articles from Business and Finance >>>

The most recent press releases about innovation >>>

Die letzten 5 Focus-News des innovations-reports im Überblick:

Im Focus: Interfacial Superconductivity: Magnetic and superconducting order revealed simultaneously

Researchers from the University of Hamburg in Germany, in collaboration with colleagues from the University of Aarhus in Denmark, have synthesized a new superconducting material by growing a few layers of an antiferromagnetic transition-metal chalcogenide on a bismuth-based topological insulator, both being non-superconducting materials.

While superconductivity and magnetism are generally believed to be mutually exclusive, surprisingly, in this new material, superconducting correlations...

Im Focus: Studying fundamental particles in materials

Laser-driving of semimetals allows creating novel quasiparticle states within condensed matter systems and switching between different states on ultrafast time scales

Studying properties of fundamental particles in condensed matter systems is a promising approach to quantum field theory. Quasiparticles offer the opportunity...

Im Focus: Designing Architecture with Solar Building Envelopes

Among the general public, solar thermal energy is currently associated with dark blue, rectangular collectors on building roofs. Technologies are needed for aesthetically high quality architecture which offer the architect more room for manoeuvre when it comes to low- and plus-energy buildings. With the “ArKol” project, researchers at Fraunhofer ISE together with partners are currently developing two façade collectors for solar thermal energy generation, which permit a high degree of design flexibility: a strip collector for opaque façade sections and a solar thermal blind for transparent sections. The current state of the two developments will be presented at the BAU 2017 trade fair.

As part of the “ArKol – development of architecturally highly integrated façade collectors with heat pipes” project, Fraunhofer ISE together with its partners...

Im Focus: How to inflate a hardened concrete shell with a weight of 80 t

At TU Wien, an alternative for resource intensive formwork for the construction of concrete domes was developed. It is now used in a test dome for the Austrian Federal Railways Infrastructure (ÖBB Infrastruktur).

Concrete shells are efficient structures, but not very resource efficient. The formwork for the construction of concrete domes alone requires a high amount of...

Im Focus: Bacterial Pac Man molecule snaps at sugar

Many pathogens use certain sugar compounds from their host to help conceal themselves against the immune system. Scientists at the University of Bonn have now, in cooperation with researchers at the University of York in the United Kingdom, analyzed the dynamics of a bacterial molecule that is involved in this process. They demonstrate that the protein grabs onto the sugar molecule with a Pac Man-like chewing motion and holds it until it can be used. Their results could help design therapeutics that could make the protein poorer at grabbing and holding and hence compromise the pathogen in the host. The study has now been published in “Biophysical Journal”.

The cells of the mouth, nose and intestinal mucosa produce large quantities of a chemical called sialic acid. Many bacteria possess a special transport system...

All Focus news of the innovation-report >>>

Anzeige

Anzeige

Event News

12V, 48V, high-voltage – trends in E/E automotive architecture

10.01.2017 | Event News

2nd Conference on Non-Textual Information on 10 and 11 May 2017 in Hannover

09.01.2017 | Event News

Nothing will happen without batteries making it happen!

05.01.2017 | Event News

 
Latest News

Water - as the underlying driver of the Earth’s carbon cycle

17.01.2017 | Earth Sciences

Interfacial Superconductivity: Magnetic and superconducting order revealed simultaneously

17.01.2017 | Materials Sciences

Smart homes will “LISTEN” to your voice

17.01.2017 | Architecture and Construction

VideoLinks
B2B-VideoLinks
More VideoLinks >>>