Working Paper Revision

International Financial Regulation: The Role of Banking Sector Sizes

Abstract: This paper presents a simple N region banking model of liquidity mismatch to study the strategic interactions between national regulators. Banks hold insufficient liquidity, which leads to a fire-sale externality in an international financial market, justifying coordinated prudential regulation. However, countries with a smaller banking sector internalize less of the inefficiency and have an incentive to free-ride on foreign regulation. As a consequence, countries cannot agree on common regulatory standards. Further, small countries have a strictly positive marginal cost to regulate, which can also prevent coordination on non-harmonized standards. An empirical section demonstrates that key issues around the implementation of the Basel Agreements are consistent with the implications from the model.

JEL Classification: D62; F36; F42; G15; G21;

https://doi.org/10.18651/RWP2021-13

Bibliographic Information

Provider: Federal Reserve Bank of Kansas City

Part of Series: Research Working Paper

Publication Date: 2024-07-10

Number: RWP 21-13

Related Works

• Working Paper Revision (2024-07-10) : You are here.
• Working Paper Original (2021-11-17) : National Interests, Spillovers and Macroprudential Coordination