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Do institutions matter? Political economy of the enhancement of banking supervision

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Abstract

The aim of this study is to examine the degree to which a country’s institutional quality, such as the degree of central bank independence and the rule of law, matters for enhancing banking supervision. While numerous studies have examined the effects of central bank independence (CBI) on inflation and the quality of governance on economic growth and development, empirical studies exploring these institutional impacts on banking supervisory regimes remain scarce. Hence, this study analyzes the political economy of enhancing the supervision over the banking sector using the expanded indices of enhancement of banking supervision for 100 economies from 1973 to 2013, which accounts for both institutional and operational independence of banking supervisory agencies. The results demonstrate that institutions matter in enhancing a country’s banking supervision; a higher degree of central bank independence and the rule of law leads to a higher degree of banking supervision. I also analyze the sectoral impact on banking supervision. While resource curse theory holds, the results of sectoral influence tend to differ depending on the estimation method.

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Notes

  1. Lateef [26] provides comprehensive critical reviews of the concepts and practices of the World Bank’s governance.

  2. Tesche [36] focuses on how the ECB successfully managed in conducting unconventional monetary policies. For supporting arguments of CBI using unconventional monetary policies, see Draghi [14].

  3. A previous version of the Financial Reform Database was provided by Abiad et al. [1].

  4. While most major countries in other regions (Western Europe and North America, Eastern Europe and Central Asia, and Latin America and the Caribbean) are covered in this dataset, the Middle East, and North Africa, as well as Sub-Saharan African regions, are underrepresented.

  5. The concepts of institutional independence for coding the second question and the concept of operational independence for coding the third question are based on Quintyn et al. [25].

  6. For more detailed coding, see the V-Dem codebook version 10 [11], pp. 281–282.

  7. The raw score of the dimension of the banking sector entry of the Financial Reform Database is the additive index of the following policy reform score: foreign bank entry (0–2 points), domestic bank entry (0–1 point), lifting branching restriction (0-1 point), and diversification of bank activity (0–1 point).

  8. Coding is based on the IMF’s MONA database [19] and IMF staff reports for various years.

  9. For further development of RCTs and remaining challenges, see Avdeenko and Frölich [5].

  10. The inclusion of the lagged dependent variable with fixed effects may lead to the Nickell bias [34]. Namely, the process of the group demeaning of fixed effects leads to the correlation between the lagged dependent variable and the error term. However, with a time of 40 years, the magnitude of the Nickell bias in cross-section-time-series data is not severe [7], although it will not completely eradicate the problem of the Nickell bias.

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Acknowledgments

I express my deep appreciation for Abdul Abiad and Stijn Claessens for providing me with the opportunity to visit the IMF in 2013 to revise the Financial Reform Database. All errors in this paper are my own.

Funding

This study was supported by Grands-in-Aid for Scientific Research (Grant Numbers JP25380202) from the Japan Society for the Promotion of Science.

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  1. Department of Politics and International Studies, International Christian University, Tokyo, Japan

    Sawa Omori

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  1. Sawa Omori
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Correspondence to Sawa Omori.

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Omori, S. Do institutions matter? Political economy of the enhancement of banking supervision. J Bank Regul 25, 73–83 (2024). https://doi.org/10.1057/s41261-023-00215-w

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