Historical perspectives on bank supervision, asset bubbles, and market microstructure.

• Author: White, Eugene N.
• Position: Research Summaries

Evaluating the appropriate policy responses to financial crises and banking scandals represents one of the major challenges of macroeconomics and financial economics. My research on earlier financial crises and regulatory regimes provides useful comparative insights. In research with several coauthors, I have investigated issues concerning the role and effectiveness of bank supervision, the origins and responses to asset bubbles, how to minimize moral hazard when intervening in financial crises, and the design of market microstructure to manage counterparty risk. Another area of my research examines coerced international transfers in wartime.

Bank Supervision

In an overview paper, (1) I outline an asymmetric information-based taxonomy of regulation and supervision, identifying five distinct regimes in the United States from the Civil War to 2008. My current research project focuses on the first two periods, the National Banking Era (1863-1913) and the early years of the Federal Reserve (1914-1932), after which I will follow the evolution of supervision from the New Deal Era (1933-1970) to the post-New Deal period (1970-1990) and the Contemporary Era (1991- 2008).

After the Crisis of 2008, the search for financial stability has led to adoption of increasingly complex regulations and higher expectations for supervision to limit risk-taking. Earlier regimes had simpler regulatory structures and lower expectations for supervision, yet seem to have been more successful in limiting risk-taking. In a paper that examines how the establishment of the Federal Reserve in 1913 altered the norms of bank super-vision, (2) I find that bank failures in the late nineteenth century resulted in surprisingly small losses for depositors. In the National Banking Era, regulations defined banks narrowly but were relatively simple. Federal and state super-visors used surprise examinations and marked assets to market, suspending banks promptly if they appeared to be insolvent. Crucially, double liability for national bank shares -- where shareholders were liable to be assessed up to the par value of their stock in the event of failure -- induced many weak banks to close before they failed. These voluntary liquidations outnumbered insolvencies four to one. For this fifty-year period, total losses to depositors of national banks were $44 million, and for all banks were less than $100 million -- less than one percent of GDP -- even though there were periodic financial crises.

The establishment of the Federal Reserve as the primary regulator of state member banks created tension with the Office of the Comptroller of the Currency, the primary regulator of national banks. The resulting "competition in laxity" led to a weaker supervisory regime. In addition, with access to the discount window, fewer troubled banks liquidated. Although this was intended as only a temporary source of liquidity, it led to a significant number of banks becoming habitual borrowers. While losses to depositors...