The future of regulation of the financial services industry: from control instruments to certification requirements

This paper advocates a shift in regulatory design in light of the increasingly competitive and dynamic environment of banking. Intrusive, control-oriented direct and indirect approaches to regulation have become increasingly costly. We advocate regulation that focuses on setting minimum requirements, i.e., certification requirements. Supervision would then primarily aim at verifying compliance. The viability of this approach requires a well-developed financial system and adequate internal control systems, primarily to align incentives within institutions. The analysis includes an industrial organization model that formally examines the distortionary costs of regulation and an analysis of regulation in the context of emerging economies.