A Systemic Regulator for Financial Markets

Financial regulations in almost all countries are designed to ensure the soundness of individual institutions, principally commercial banks, against the risk of loss on their assets. This focus on individual firms ignores critical interactions between institutions. Attempts by individual banks to remain solvent in a crisis, for example, can undermine the stability of the system as a whole. The focus on individual institutions can also cause regulators to overlook important changes in the overall financial system. The solution to this narrow institutional focus is simple: One regulatory organization in each country should be responsible for overseeing the health and stability of the overall financial system. This Working Paper, the fourth in the Squam Lake Working Group series distributed by the Center for Geoeconomic Studies, argues that the central bank should be charged with this important new responsibility.t