Systemic Risk and Regulation

Franklin Allen and Douglas Gale

in The Risks of Financial Institutions

Published by University of Chicago Press

Published in print February 2007 | ISBN: 9780226092850
Published online February 2013 | e-ISBN: 9780226092980 | DOI:
Systemic Risk and Regulation

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This chapter explains that inefficient regulation can result in risk-transfer activity that is focused on evasion of regulation, and that such activity can increase systemic risk. It also provides evidence and models demonstrating that the details of how securitizations are structured and used are significant to their net effect on bank insolvency risk and systemic risk. It shows that capital regulation can increase systemic risk when markets and contracts are incomplete. The capital enhances risk sharing and allows more funds to be invested in loans, both from the extra capital and from the lower-return long asset. Inefficient banking regulation and credit risk transfer can increase overall systemic risk. In the model presented, systemic risk was not particularly damaging. Assets could be liquidated in the banking system for the full amount of their value.

Keywords: capital regulation; systemic risk; securitizations; markets; banking regulation; credit risk transfer; banking system

Chapter.  14462 words. 

Subjects: Financial Markets

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