This will be done by setting out a series of general principles designed to lower the probability of banking distress. It also includes the arrangements for official intervention in the event of bank distress. A central theme is that, while external regulation has a role in fostering a safe and sound banking system, this role is limited. Equally, and increasingly, important are the incentive structures faced by private banking agents, and the efficiency of the necessary monitoring and supervision of banks by official agencies and the market.
External regulation is only one component of regimes to create safe and sound banking systems.
It is also necessary within the regulatory regime to include the arrangements for intervention in the event of bank distress and failures not the least because they have incentive and moral hazard effects which potentially influence future behaviour by banks and their customers and the probability of future crises. Different intervention arrangements also have implications for the future efficiency of the financial system in that, for instance, forbearance may have the effect of sustaining inefficient banks and excess capacity in the banking sector. It has also been claimed that the aftermath of the Mexico crisis sent a signal to investors that they are less likely to sustain losses by investing in short-term securities. The focus of the paper is wider than the banking crises recently experienced by countries in Latin American and South East Asia. There are also significant lessons to be learned from the experience in more long-standing developed countries such as the Scandinavian banking crises in the early 1990s.