The Changing Role of Central Banks and the Role of Competition in Financial Regulation during (and in the Aftermath of) the Financial Crisis

AuthorMarianne Ojo
Date01 July 2011
Published date01 July 2011
DOIhttp://doi.org/10.1111/j.1468-0386.2011.00563.x
eulj_563513..533
The Changing Role of Central Banks and
the Role of Competition in Financial
Regulation during (and in the Aftermath
of) the Financial Crisis
Marianne Ojo*
Abstract: Rescue cases involving guarantees (contrasted with restructuring cases)
during the recent Financial Crisis, have illustrated the prominent position that the goal
of promoting financial stability has assumed over that of the prevention or limitation
of possible distortions of competition which may arise when granting State aid. The
importance attached to maintaining and promoting financial stability—as well as the
need to facilitate rescue and restructuring measures aimed at preventing systemically
relevant financial institutions from failure, demonstrate how far authorities are willing
to overlook certain competition policies. However, increased government and central
bank intervention also simultaneously trigger the usual concerns—which include moral
hazard and the danger of serving as long-term substitutes for market discipline. How far
central banks and governments should intervene and how far distortions of competition
should be permitted ultimately depends on how systemically relevant a financial insti-
tution is.
I Introduction
It is argued that competition assessments—whether carried out only by the competition
authority or in conjunction with the financial sector regulator, are vital for state aid
applications and many emergency measures which may have been established by
governments.1Whether new regulatory procedures which are to be introduced will
facilitate ‘meaningful competition assessments’ to be made within the available time
period during times of crises, constitutes a topic of controversial dimensions and such
controversy is also acknowledged.2
Until the 1980s, it was widely acknowledged that competition contributed to the
deterioration of financial stability—intense competition was particularly considered to
* Researcher, Oxford Brookes University, School of Social Sciences and Law, Headington, Oxford.
1See Organisation for Economic Cooperation and Development, ‘Competition and the Financial Markets:
Key Findings’, Report of the Organisation for Economic Cooperation and Development (Organisation
for Economic Cooperation and Development Publications, 2009), at 10. Available at http://
www.oecd.org/dataoecd/9/22/43067294.pdf.
2ibid.
European Law Journal, Vol. 17, No. 4, July 2011, pp. 513–533.
© 2011 Blackwell Publishing Ltd., 9600 Garsington Road, Oxford, OX4 2DQ, UK
and 350 Main Street, Malden, MA 02148, USA
favour excessive levels of risk taking—hence contributing to higher risks of individual
bank failures.3However, it has been recently observed that ‘panic runs can occur
independently of the degree of competition in the market.’4
Even though it is evident that the Crisis began in the USA, its rapid dissemination
has been attributed to many other different factors—most of them linked to the
globalisation of the financial system. However, it is evident that the degree of variation
and intensity of the Crisis, from one country to another, is dependent on individual
circumstances.
A number of factors considered to have triggered the recent Financial Crisis include:5
Macro economic issues such as low interest rates in the USA that helped create
widespread housing bubbles whose developments were fuelled by insufficiently
regulated mortgage lending and securitisation financing techniques;
Poor risk management by issuers of structured financial products;
Underestimation by credit rating agencies of the credit default risks of instru-
ments collateralised by subprime mortgages;
Corporate governance failures in financial firms—where the complex nature of
financial products was not adequately understood; and
Regulatory, supervisory and crisis management failures.
Other views regarding contributory factors to financial crises and particularly financial
instability, embrace criticisms of the monetary policies established by central banks.
The standard argument advanced by critics of monetary policies during past financial
crises, relates to the fact that ‘interest rates were kept too low for too long and that this
created for investors, both an incentive and a possibility to take excessive risks’.6A
further criticism of monetary policy is attributed to the fact that investors are encour-
aged to believe that monetary policies will always bail them out in times of financial
difficulties.7
While the need to promote and maintain financial stability is paramount, safeguards
need to be implemented and enforced to ensure that measures geared towards the aim
of sustaining system stability (measures such as lender of last resort arrangements and
State rescues) do not unduly distort competition as well as induce higher risk taking
levels. This paper will draw attention to safeguards that have been provided by the
Commission where approval is considered for the grant of State aid to financial
institutions whose problems are attributable to inefficiencies, poor asset liability
management or risky strategies. In a previous paper,8safeguards that are in place to
ensure that competition is not distorted were considered under section four of the
paper. Such safeguards, as considered in the paper, are applicable both to financial
3See ibid at 26.
4ibid.
5A. Petrovic and R. Tutsch, ‘National Rescue Measures in Response to the Current Financial Crisis’, ECB
Legal Working Paper Series no 8 July 2009 at 6. Available at http://www.ecb.europa.eu and http://
ssrn.com/abstract_id=1430489.
6C. Noyer, ‘Central Banks in the Financial Crisis’, Bank for International Settlements Publications.
Available at http://www.bis.org/review/r090710a.pdf.
7Since ‘central banks would not lean against bubbles but have been prepared to clean up the consequences
after they burst’. See ibid.
8Please particularly refer to section four of the paper (by the author), M. Ojo. ‘Liquidity Assistance and the
Provision of State Aid to Financial Institutions’, (2010) Munich RePEc and SSRN Working Papers.
European Law Journal Volume 17
514 © 2011 Blackwell Publishing Ltd.

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