Bank regulation: Has the regulation pendulum swung too far?

Banking crises inevitably bring forth more and different regulation of banks, and the global crisis from mid-2007 to early 2009 was no exception as the aftermath of the crisis witnessed one of the biggest-ever upheavals in international banking regulation. The regulatory pendulum has had a long history, as bank regulation has varied in ambition and complexity over many decades. This article is intended to question whether the new regulatory regime for banks implies disproportionate and excessively complex regulation, with attendant and unnecessary private and social costs. We identify several pressures tending towards over-regulation. In particular, as regulation has a cost, but no price, it may falsely be viewed as a “free good” with a consequent tendency for it to be both over-demanded and over-supplied by risk-averse regulators. Whilst each addition to regulation taken alone might seem to satisfy cost–benefit criteria, a large number of apparently desirable regulations may mean that the totality of regulation becomes disproportionate for the key regulatory objectives. Cost–benefit analysis should, therefore, also be applied to the totality of regulation. Historically, the focus of regulatory regimes has been on reducing the probability of bank failures (with a tendency for rules escalation) rather than minimising the costs of those failures that do occur. There can be a trade-off between the two in that the lower are the costs of bank failure (via, for instance, strong resolution arrangements) the less need there could be for regulation to lower the probability of bank failures. The debate needs to be about the appropriate weight to be given to these two important dimensions of the regulatory regime.