Aim of the Paper

1. The Regulator’s trade-off: Bank Supervision vs. Minimum Capitalby Florian Buck and Eva SchliephakeDiscussion:Fabio CastiglionesiDepartment of FinanceTilburg UniversityMacro-prudential Regulation WorkshopNovember 29th, 2012 – Olso, Norges Bank

2. Aim of the Paper • To disentangle the trade-off between capital requirements (more regulated) and bank supervision (left to national authorities) • To analyze a broader approach to regulation (“political economy” vs. prudential regulation)

3. General Assessment • The paper addresses a relevant topic: Which policy tool (or which mix of them) guarantees a stable banking system? • The effort to understand it focusing on a broad approach is worth it. But the paper should be more consistent between the different parts.

4. Mechanism I • Optimal regulation in a closed economy. • Adverse Selection: some banks θ have access to a monitoring technology. • Moral Hazard in efficient banks. • Capital requirement solves MH (but not AS), supervision (affecting fraction θ) solves AS.

5. Mechanism II • Optimal regulation in open economies. • The optimal mix depends on the observability of the banking sector’s national regulation. • If it is observable, then the optimal mix is possible. Otherwise, a deregulation race occurs and autarky is preferred.

6. Comments (I) • The adverse selection problem needs more clarification. The opaqueness of the banking system is extreme. • Depositors do not observe bank’s type but why they cannot observe any choice variable (like additional capital, profits, leverage)? • Argue convincingly that traditional screening mechanisms do not solve the AS problem (or that are worse than regulatory allocation).

7. Comments (II) • In the model, a signaling device could be the interest rate paid on deposits. • Assumption of perfect competition assures this interest rate taken as given. • If banks can capture the regulator (as in the supervision analysis), why not change the nature of deposits market? • Efficient banks could signal their type by increasing interest rate. Goofy banks will not follow. AS could be solved?

8. Comments (III) • The paper considers the type of the bank θ as a primitive (state of the world) of the model. • However, the regulator can transform the type by supervising the bank. • To be consistent, why not consider the type of the bank as a choice in the previous analysis as well?

9. Comments (IV) • In the optimal policy not clear why profits of the goofy banks are not considered by the regulators in its objective function. • They are inefficient banks but they are still in the economy. What is the rationale for not including them?

10. Comments (V) • Suggestion: bring to the data the result that supervision and capital regulation are substitute. • Higher supervision (higher θ*) implies lower k*. Less stringent capital regulation should be related to more stable banking system. • k* varies in the cross-section and in the time series.

11. Comments (VI) • Open economies. • Assumption: depositors cannot distinguish different national regulatory regimes. Difficult to understand without further explanation. • In the model we have a unique optimal pair (k*,θ*). Observing k*, you know θ* and therefore bank’s quality and charge the appropriate different interest rate. What I am missing?

12. Minor Comments • (page 4): “non-monitoring project have negative expected returns”. Actually, it can still be the case that γ>Rp(L)>1. • (page 5). The justifications for the costly bank capital assumption are weak (“private benefits for depositing”). Suggestion: make the assumption and move on.

13. Minor Comments • The conditions on Definition 1 (θ sufficiently low for intermediation breakdown) and Lemma 1 (θ sufficiently high for capital to solve moral hazard problem) are consistent? • Paper refer to rents about profits of the efficient banks, and profits about profits of the goofy banks. Why so?

14. Conclusions • The paper addresses a very important issue. • Improve the overall model’s consistency.

15. Thank you for your attention!