- ADBI series on Asian Economic Integration and Cooperation
Edited by Masahiro Kawai, David G. Mayes and Peter Morgan
2. Strengthening systemic financial regulation Masahiro Kawai and Michael Pomerleano 2.1 INTRODUCTION With a few notable exceptions, central bankers, financial supervisors and regulators, other policymakers, international organizations, the private sector and academic economists failed to predict the global financial crisis and underestimated its severity. Such a dramatic failure of the entire financial community warrants soul searching: is it possible to prevent a systemic crisis? In this chapter, it will be argued that this is indeed possible and that the best way to prevent a financial crisis is to identify and act on systemic risk or sources of financial instability. The devastating global financial crisis of 2007–2009 offers a set of lessons. The new lessons learned are more substantial than those learned in the past, as what were considered the best financial systems – those of the United States (US), the United Kingdom (UK), and continental Europe – all went wrong. The objective of this chapter is to explore how to spot signs of systemic risk and prevent a financial crisis. It will be argued that an effective framework for systemic stability regulation should be established in each country, but that such a national effort would not be sufficient without the US and the UK – hosts to global financial centers and where the crisis originated – making a full political commitment to systemic stability regulation. The chapter is organized as follows. Section 2.2 discusses the importance of crisis prevention and argues that effective macroprudential supervision – a top-down approach complemented by bottom-up microprudential supervision...
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