IMF Working Papers

Financial Stability Frameworks and the Role of Central Banks: Lessons From the Crisis

Author/Editor:

Erlend Nier

Publication Date:

April 1, 2009

Electronic Access:

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Summary:

This paper sets out general principles for the design of financial stability frameworks, starting from an analysis of the objectives and tools of financial regulation. The paper then offers a comprehensive analysis of the costs and benefits of the two main models that have emerged for modern financial systems: the integrated model, with a single supervisor outside of the central bank, and the twin-peaks model, with a systemic risk regulator (central bank) on the one hand and a conduct of business regulator on the other. The paper concludes that the twin-peaks model may become more attractive when regulatory structures are geared more explicitly towards the mitigation of systemic risk-including through the introduction of new macroprudential tools that could be used alongside monetary policy to contain macro-systemic risks; through enhanced regulation and special resolution regimes for systemically important institutions; and a more holistic approach to the oversight of clearing and settlement systems. Since the optimal solution may well be path-dependent and specific to the development of financial markets in any given country, a number of hybrid models are also discussed.

Series:

Working Paper No. 2009/070

Subject:

Banking Central bank mandate Central banks Financial crises Financial sector policy and analysis Financial sector stability Special resolution regime Systemic risk