7 - Financial Regulation for a Sustainable Economy

Summary

In the wake of the 2008–9 global financial crisis, the G20 devised a framework for a sustainable recovery based on international cooperation. An agreement was reached to ensure that inter alia macro-prudential and regulatory policies would support sustainable economies by preventing credit and asset price cycles from becoming forces for financial destabilization. The G20 recognized the importance of striking a balance between micro- and macro-prudential regulation to control risks, and to develop tools to monitor the build-up of systemic risk in the financial system. This chapter argues that the design of the supervisory structure is instrumental in striking the appropriate balance between these regulatory disciplines. Clear mandates and supervisory judgement are necessary to control this interdependent relationship. Regulatory underlap, gaps, and arbitrage can surface when the supervisory structure does not harmonize with legal infrastructure. To mitigate these regulatory flaws causing financial instability and producing unsustainable economies, supervisors must have sufficient capacity, expertise, awareness, and discretion. Attaining financial stability and a sustainable economy requires the supervisory structure or model, and the supervisor’s capacity and expertise to be harmonized with the legal infrastructure.