Can Good Governance Pre-empt Regulation in Financial Services?

The following is an Op-Ed by NYU Stern Professor and MSRM Academic Director Ingo Walter, featured on The European Financial Review. 

“The epic financial crisis left behind massive damage to the process of financial intermediation, the fabric of the real economy, and the reputation of banks and bankers. Even today, some five years later, little has happened to restore financial firms to their former glory near the top of the reputational food chain in most countries. For reasons of their own, many boards and managers in the banking industry have little good to say about the taxpayer bailouts and inevitable regulatory tightening in their haste to get back to business as usual. Indeed, they have inflicted a drumbeat of new reputational damage upon their industry.

In the current debates on regulatory reforms, the preferred solution among economists, bankers and policymakers is to rely on market forces and rigorous corporate governance to prevent systemic risk from again devastating the financial and economic landscape. How? Excellence in corporate governance sustainably aligns the interests of shareholders – through the stock price – with the interests of other constituencies like managers, employees and clients. Unfortunately, we have plenty of evidence that governance of financial firms has frequently been inexcusably remiss and differs dramatically among firms. In the case of “systemically important financial institutions,” the incentives encourage governance that loads risks on the person who isn’t there: the taxpayer. Only the prospect of massive losses in the value of the firm’s franchise – reputational loss – provides a governance counterweight that may help protect the general public from systemic loss.

How well have boards done in protecting and sustaining their business franchises in key domains where reputational risk thrives?”

Read the entire article on TEFR.

Ingo Walter holds the Seymour Milstein Chair in Finance, Corporate Governance and Ethics at the Stern School of Business, New York University. He is the Academic Director of the MS in Risk Management Program.

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