An alternative approach to bank regulation

A while back I wrote:

Banks are not, and cannot, be plc's in the same way that other companies are. The social value of a steelmaker can only fall as far down as zero, while the social value of a bank can be much, much lower than that.

Avinash Persaud at Vox EU proposes a solution:

The third pillar [of financial regulation reform] is requiring banks to pay an insurance premium to tax payers against the risk that the tax payer will be required to bail them out. If such a market could be created, it would not only incentivise good banking and push the focus of regulation away from process to outcomes, but it would provide an incentive for banks to be less systemic. Today, banks have an incentive to be more systemic as a bail out is then guaranteed. The right response to Citibank’s routine failure to anticipate its credit risks is not for it to keep on getting bigger so that it can remain too big to fail, but for it to whither away under rising insurance premiums paid to tax payers.


  1. Anonymous Says:

    In theory I agree with the idea- but it suffers from a problem typical of many economic thinkers in that it does not consider the operational issues.

  2. Shane Says:

    It's not a bad idea but I don't quite see how it would disincentivise some of the sillier risk-taking we've seen over the last few years.

    Bailing out banks is something that governments do reluctantly, but systematically, in the interests of greater stability. The small but substantial risk of having to save a bank is an implicit liability of on the balance sheet of pretty much every government in the western world. This may not be immediately obvious to taxpayers but it's hardly obscure either.

    A well-functioning banking system displays many of the characteristics of a public good in that we all benefit from the existence of healthy banking system no matter how heavy or light our use of it is. So I don't quite see why banks should be charged explicitly for the security that only something as large and coordinated as the government can provide anyway.