Regulatory complexity, uncertainty, and systemic risk: are regulators hedgehogs or foxes?

Maurizio Trapanese

No 697, Questioni di Economia e Finanza (Occasional Papers) from Bank of Italy, Economic Research and International Relations Area

Abstract: This paper explores the relationship between regulatory complexity and systemic risk. Building upon the distinction between measurable risk and uncertainty, it outlines the fundamentals of the main regulatory frameworks of the last two decades (with a focus on the Basel Accords). The resulting outcome in terms of excessively regulatory complexity might turn out to be costly, and sub-optimal for crisis prevention. Since modern finance is characterized by uncertainty (rather than risk), less complex rules could be given greater consideration. Rebalancing regulation towards simplicity may produce Pareto-improving solutions, and encourage better decision making by authorities and regulated entities. However, addressing systemic risk in a complex financial system should not entail the replacement of overly complex rules with overly simple or less stringent regulations. The challenge is to define criteria and methods to assess the degree of unnecessary complexity in regulation. To this end, the paper proposes some options affecting the content of the rules, the regulatory policy mix for certain financial sectors, as well as the rulemaking process.

Keywords: economic theory; uncertainty; financial crises; financial regulation (search for similar items in EconPapers)
JEL-codes: B20 D81 G01 G28 (search for similar items in EconPapers)
Date: 2022-06
New Economics Papers: this item is included in nep-ban, nep-cba, nep-reg and nep-rmg
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Citations: View citations in EconPapers (2)

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Persistent link: https://EconPapers.repec.org/RePEc:bdi:opques:qef_697_22

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