Edited by Jan Toporowski and Jo Michell
Chapter 3: Bank regulation
The recent financial crisis had many causes, but there is agreement that to prevent such events, regulation, particularly of banks, must change. This chapter first considers why banks are so important in this discussion and then briefly reviews the types of banking crises. This leads to a discussion of possible regulatory responses to encourage banking stability, shows the dilemma intrinsic to that discussion, and considers in conclusion whether it can be resolved. Ever since, in 1795, Francis Baring wrote of the consequences for the British banking system of the outbreak of the Napoleonic Wars, banking systems have been regarded as special. The reasons are clear. In a modern economy bank balances are a large part of the money stock. If banks fail, the money stock falls, and the inevitable consequences of that, certainly in the short run, are a fall in output. Second, banks are also a major transmission channel of funds from lenders to borrowers; indeed, for some sectors of the economy (small firms, for example) they are the only such channel of transmission. If that channel is blocked even partially, both recession and subsequently slow growth can result.
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