Abstract
This paper studies whether compliance with the Basel Core Principles for Effective Banking Supervision (BCP) improves bank soundness. BCP compliance assessments provide a unique source of information about the quality of bank supervision and regulation around the world. The authors find a significant and positive relationship between bank soundness (measured with Moody's financial strength ratings) and compliance with principles related to information provision. Specifically, countries that require banks to report regularly and accurately their financial data to regulators and market participants have sounder banks. This relationship is robust to controlling for broad indexes of institutional quality, macroeconomic variables, sovereign ratings, as well as reverse causality. Measuring soundness through z-scores yields similar results. The findings emphasize the importance of transparency in making supervisory processes effective and strengthening market discipline. Countries aiming to upgrade banking regulation and supervision should consider giving priority to information provision over other elements of the Core Principles.
Highlights
With increasing deregulation and globalization beginning in the 1980s, banking systems have become more fragile and banking crises have proliferated, causing or aggravating economic downturns and leading to significant fiscal costs (Caprio and Klingebiel, 1999)
When we distinguish among groups of Basel Core Principles (BCPs), on the other hand, we find a very robust positive relationship between compliance with information provision (BCP No 21) and bank soundness
What type of regulation and supervisory practices are most effective in ensuring bank soundness? This is the question that we have addressed in this study
Summary
With increasing deregulation and globalization beginning in the 1980s, banking systems have become more fragile and banking crises have proliferated, causing or aggravating economic downturns and leading to significant fiscal costs (Caprio and Klingebiel, 1999). To improve crisis prevention and management, many countries are working to upgrade their bank regulation and supervision. This is a complex and difficult process, in developing countries, where the required expertise may be scarce, the legal environment weak, and governance problems may lead to regulatory capture. Since 1999, the IMF and the World Bank have conducted evaluations of member countries’ compliance with this standard, mainly within their joint Financial Sector Assessment Program (FSAP).. Since 1999, the IMF and the World Bank have conducted evaluations of member countries’ compliance with this standard, mainly within their joint Financial Sector Assessment Program (FSAP).4 These assessments provide a unique source of information about the quality of supervision and regulation around the world Since 1999, the IMF and the World Bank have conducted evaluations of member countries’ compliance with this standard, mainly within their joint Financial Sector Assessment Program (FSAP). These assessments provide a unique source of information about the quality of supervision and regulation around the world
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