Public policy toward financial institutions, and depositories in particular, has attempted to promote competition within a framework of regulation intended to ensure the financial integrity of the institutions.
a. Discuss the fundamental reasons for financial regulation as discussed in class and in the text. As part of this discussion, provide an analysis of the potential conflicts between a policy of promoting competition and a policy of reducing the chance of financial institution failure. In this context what are the dangers of the too-big-to-let-fail policy in promoting financial intermediary efficiency, productivity and competition as more large FIs are formed through mergers and consolidation. Consider whether the problem of moral hazard facing regulators and the federal deposit insurance funds is more or less of a problem under this policy.
Pick one of the statements below to answer based on class lectures and the text:
1. Give an example of a recent regulatory reform or change in federal or state laws that are intended to promote competition among financial intermediaries and how they are to do so. Within your discussion, provide an analysis of how market forces, such as rising interest rates, inflation, and financial innovation, have stimulated the development of new financial instruments and new institutional arrangements and intensified competition among financial institutions.
2. Several dominant movements in determining the structure of the U.S. banking system have been the spread of branch banking, the growth of bank holding companies and interstate banking and branching which permit the geographic expansion of banking services and the ability of banking organizations to offer new and diversified product lines. In the 1970s, nonbank financial firms, such as insurance companies and stock brokers, began competing with depository institutions. Does this revitalized competition, recently characterized by the innovation of by specialized banking firms and the potential for expanded product lines, cause present prudential regulation (e.g., capital adequacy standards, examinations or asset composition constraints) and federal deposit insurance to be outmoded? In your answer, discuss the role and administration of prudential regulation when major depository institutions may be highly diversified financial service companies providing life and casualty insurance sales and underwriting, corporate securities underwriting, household and business depository services, sophisticated EFT and telecommunications services as well as traditional lending to business.