No abstract

In developing countries and countries in transition, a lack of finance is regarded as a major reason for the underperformance of the SME sector. The financial sector does not channel funds efficiently from savers to the most efficient investment. In a general equilibrium endogenous growth model, we explain the underperformance of the SME sector by interbank market frictions. High information costs in the interbank market lead to a high loan/deposit spread and hence to a low growth equilibrium. The solution to this problem is twofold. First, central bank policy could reduce interbank information problems by providing effective bank supervision. Second, if the central bank is expected not to have sufficient monitoring capabilities, reputation and reserves, opening up the interbank market to international banks can substitute for insufficient central bank activities. Copyright Springer-Verlag Berlin Heidelberg 2004Endogenous growth, transition, financial intermediation, interbank market, asymmetric information, P20, O16, G21,

When financial markets are global, the impacts of national banking regulations extend beyond national borders. While lax regulatory enforcement improves the profitability of home banks, it also increases loan supply, which in turn reduces the global interest rate spreads. In a two-country model we show that each regulator's enforcement choice is affected by the relative size of the national financial market. An authority regulating a smaller market has a smaller impact on global interest rates and therefore a stronger incentive to relax regulatory enforcement.

Financial innovation may cause negative externalities and thus requires government interventions to correct incentives. However, with imperfect information, a simple Pigouvian tax cannot be implemented. We suggest to link the compensation of supervisors to the compensation of decision makers via a tax on the latter. Apart from inducing lower compensation in the financial sector, this mechanism provides an incentive for financial institutions to design contracts discouraging rent-seeking. As high compensation for rentseeking would indirectly increase wages and thus talent of supervisors, it would also increase the expected punishment. Therefore, private rewards for rent-seeking will be reduced which improves economic efficiency.