Financial Regulation Reform: Politics, Implementation and Alternatives

Anat Admati argues that the banking system is too fragile and inefficient, and that reform efforts have been flawed. The fragility of the system causes booms and busts, and busts lead to bailouts when authorities fear the alternatives are worse. A key problem is that banks and other institutions rely excessively on borrowing, which combines with opacity and a high level of interconnectedness to create an unnecessarily fragile, dangerous, and inefficient system. The level of indebtedness in banking has nothing to recommend it; rather it reflects the private and distorted incentives of bankers and bank shareholders, and the failure of credit markets to contain risk in banking. To protect the public from excessive risks and harm in banking, we need effective capital regulation, but a combination of confusion and political forces has prevented beneficial reform in this area. Anat Admati addresses these issues and suggests useful steps going forward.