Toto, we’re not in Kansas anymore: Exploring the Contours of the Financial System After the Tornado


By Laura Kodres

Just as a tornado in Kansas transplanted Dorothy and, her dog, Toto, from familiar comforts to the unknown land of Oz, the global crisis has led many to wonder what has become of the global financial system and, more importantly, what will it look like next. Is the wicked witch of the West—excessive risk taking and leverage—really dead?

But now, as the storm subsides, there is time to speculate about what the future financial sector might look like. My IMF colleague, Aditya Narain, and I have done just that in a new Staff Position Note that attempts to discern the contours of this new financial landscape. What is clear is that the new landscape will be influenced by both the private and public sectors—their reactions to the crisis and to each other.

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It’s Hip to Be Square—Why Good Financial Sector Supervision Is Important


By José Viñals 

Financial supervisors often get a raw deal. They are the stodgy “buttoned-up” guys who stand in the way of innovation, the dyed-in-the-wool bureaucrats who resist change and meddle with markets. On the list of thankless jobs they rank somewhere between traffic wardens and tax administrators.

And yet, as the global financial crisis taught us, supervision is incredibly important. Countries with the same set of rules had very different experiences during the crisis. Why? There are clearly many reasons but one of them is “better supervision.” After all, rules are only as good as their implementation. In some countries, the financial supervisor became the unsung hero of the crisis. One might say “It’s hip to be square!”  

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IMF Opens Up: Partnerships with Donors a Win-Win


I would like to talk about one of the IMF’s core mandates that is highly successful but rarely grabs headlines: technical assistance for capacity building.

Although less glamorous than the surveillance and lending operations of the Fund, for many countries these advisory services in areas such as macroeconomic policy, public financial management, tax policy and revenue administration, financial sector supervision, or statistics are indispensable. They help IMF member countries identify weaknesses in policies and institutional frameworks, develop concrete reform proposals and strategies, and put together the nuts and bolts for translating the IMF’s policy advice into concrete implementation of reforms.

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Too Important to Fail?


By José Viñals

Over the past two years, disruptive failures, shotgun marriages, and government bailouts of some household names in the financial industry have placed the age-old issue of “too big to fail” at the center of financial sector policy discussions. As well, the Lehman bankruptcy and government support for AIG extended the “too-big-to-fail” notion from banks to include nonbank financial institutions. And in some cases, the financial institutions in distress were not even particularly big; rather, they were too interconnected, and too important for the functioning of the global financial system, to be allowed to fail.

We need to think about how to deal with such “too-important-to-fail” institutions for at least three reasons. 

  • When institutions are provided with implicit (and explicit) public support, they are apt to take on riskier activities than they otherwise would, with the knowledge that the government will step in if those risks turn out badly. This is called moral hazard
  • Well-run institutions are forced to compete with institutions that are implicitly guaranteed—or even directly financially supported—by the government. This makes for an unlevel playing field in the financial sector. 
  • Government support absorbs valuable public resources, arguably at the expense of more equitable and productive public spending; it could also endanger the fiscal stability of a country.

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Going Beyond the Rules


By José Viñals

Some countries with similar financial and regulatory systems fared differently during this crisis. What are the reasons for this? And what made some financial institutions with similar business models, and in the same country, better equipped to deal with the virulence of the crisis? To find the answers, we need to ask the following question: How well did the four key components of a sound financial system―good regulation, effective supervision, robust risk management, and credible resolution mechanisms―perform?

A lot of attention has been paid to improving regulation, the first key component. Sweeping changes are being proposed through new and enhanced rules of the game, such as higher capital, loan loss provisions, liquidity buffers, and limits on executive compensation. I believe that corresponding changes are also needed in the other three components if a crisis of this magnitude is to be avoided in the future.

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