Supervisory approaches and financial market development: Some correlation-based evidence

Peik Granlund

Journal of Banking Regulation, 2009, vol. 11, issue 1, 6-30

Abstract: The aim of this article is to investigate different types of supervisory approaches used in a number of financial markets, as well as their relation to market development. The focus is on certain major features of supervisory legislation. The supervisor's mandate, the enforcement arsenal, the level of supervisory independence and the number of regulatory powers given to the supervisor constitute the areas analysed. Financial market development, in turn, is perceived as the level of market growth, profitability (RoE), market values (P/E) and risk (beta/volatility). The markets investigated comprise banks, investment firms, investment fund companies and listed companies in the United States, United Kingdom, Sweden, Finland, Poland and Estonia during the years 1996–2005. Supervisory features are quantified and compared with financial market development using an ordinal correlation-based approach. The analysis suggests that there are distinctive differences between supervisory regimes. In addition, deviating from previous research results, certain regime features seem to correlate with financial market development. Strong legal obligations for the supervisor to develop legislation correlate significantly with higher company market values (better future prospects). Emphasizing economic aspects in the formulation of FSA objectives corresponds with higher market profitability. Furthermore, severe monetary sanctions applicable to company directors significantly (albeit negatively) correlate with market growth. Unexpectedly, the same is true for a high degree of supervisory independence. Although results call for further scientific support, they nevertheless add to the current debate on how the financial crisis should shape supervisory approaches. Thus far, G-20 measures have aimed to increase market stability and confidence, mainly by introducing new supervisory structures, more advanced reporting/enforcement procedures and better accounting standards. In this respect, the analysis calls for a certain degree of cautiousness. Depending on how supervision is made more stringent, effects on market development cannot be ruled out.

Date: 2009
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