Regulatory Capture in Banking, Hardy

This is an important paper in understanding the role of financial institutions in a modern economy. It introduces several key concepts.

Regulatory capture: the regulated controls the regulator.

Banks will want to influence the bank regulator to favor their interests, and they typically have the means to do so.

Further, financial service providers pose a natural hazard to their customers and the public:

Finance and in particular banking is necessarily characterized by asymmetric information between banks and their clients, and by systemic effects. Moreover, risk is an inherent feature of the industry. Confidence effects among banks and between banks and their creditors create various form of externality.

In the extreme, banks can reap the benefits of predatory lending while pushing off the costs associated with this type of behavior on other customers or the public.

Regulatory capture, externalities, asymmetrical information., fraudulent expert credence good providers..these all be introduced as I try to explain the mechanisms of that drives modern franchising and the financial sector that enables its actions.

Citation
Hardy, Daniel C., “Regulatory Capture in Banking” (January 2006). IMF Working Paper No. 06/34, 26 pages, Free download from ssrn.org