Economics, 3rd Edition

2. 

Changes in regulatory structures, particularly in the US, which allowed entry of new businesses into 

the mortgage market.

3. 

Basel II regulations which created incentives and the conditions for banks to develop off-balance sheet 

entities. (Basel II refers to a framework of regulations developed through discussions at the Bank for 

International Settlements (BIS).)

4. 

Changes in policy by national regulatory authorities such as the SEC in the US and the FSA in the UK 

which allowed banks to change leverage ratios from around 15:1 to 40:1. (Leverage ratios, such as debt-

to-equity ratios, measure the proportion of debt to equity.)

The OECD has been critical of national regulatory bodies suggesting that there were weaknesses in the 

way banks were regulated and that regulatory frameworks had not only failed to prevent the financial crisis 

but had been culpable in contributing to it. It identified a number of key causes which include:

 

●

the bonus culture

 

●

credit ratings agencies

 

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failures in corporate governance

 

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poor risk management strategies and understanding.

The International Monetary Fund (IMF) has broadly concurred with the OECD in its analysis of the key 

issues. It suggests that financial institutions and investors were both too bullish on asset prices and risk. 

The low interest rate environment and the extent of financial innovation (encouraged by changes in reg-

ulation) allowed excessive leverage to be carried out which increased the web of interconnectedness of 

financial products but at the same time rendered the inherent risks more opaque. It highlighted the lack of 

coordination between regulatory bodies and the legal constraints which prevented information sharing to 

be more widespread thus helping authorities to be able to understand what was going on.

This fragmented approach mean that there were differences in the way in which national regulatory 

bodies dealt with bank failures and insolvency when in many cases these banks had a global presence 

not reflected by a global coordinated response by the regulators. The actions that were taken have been 

described as being ‘piecemeal’ and ‘uncoordinated’ which not only led to a weakening of the impact of 

the policy response but also to market distortion. It also pointed to the lack of appropriate tools available 

to some central banks to provide the necessary liquidity support in times of crisis, as outlined above.

Other criticisms of the regulatory regimes in place throughout the world highlight the fact that the 

rules that are in place may not be appropriate to deal with the pace of change in financial markets, that