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This chapter considers capital adequacy and capital regulation of insurers and reinsurers. A basic theme is that capital standards should be less stringent for financial sectors characterized by greater market discipline and less systemic risk. Because market discipline is greater and systemic risk is lower for insurance than in banking, capital requirements should be less stringent for insurers than for banks. Similarly, because market discipline is generally greater in reinsurance (wholesale) markets than in direct insurance (retail) markets, capital requirements and related regulation plausibly need not be as stringent for reinsurers as for direct insurers. Current capital requirements and related solvency regulation for US and EU insurers and reinsurers are largely consistent with significant market discipline in the insurance and reinsurance sectors. Any federal regulation of US insurers/reinsurers, harmonized regulation of EU reinsurers, consolidated oversight of financial conglomerates, and increased centralization of regulatory authority to supervise insurance and other financial activities should be designed with full recognition of the limited systemic risk and strong market discipline in insurance/reinsurance and avoid undermining that discipline.

This introductory chapter begins with a discussion of the proposed revision of the rules for the regulation of capital adequacy developed by the Basel Committee on Banking Supervision. It then describes the differences among financial institutions and the three ways to ensure adequate capital: market discipline, supervisory review of firm economic models used to determine capital, and command and control regulation. An overview of the chapters included in this volume is presented.

This chapter describes and deals with a set of ideas linking overwork to external, market discipline. It begins with a discussion of ideas behind the market discipline thesis about overwork. It also assesses how the market discipline thesis stands up to evidence. Initially, the focus is upon the relationships between various insecure circumstances and employees' levels of effort. Then, the workplace policies of employers are considered, specifically those intended to produce high levels of commitment and effort. Finally, class differences are examined. The ‘market discipline’ approach generally explains persisting overwork.

This chapter argues that the implementation of subordinated debt and of Basel II could be significant moves toward the goal of enhancing the effectiveness of market discipline. Both proposals would allow for a more accurate pricing risk and an increase in transparency by making more information readily available, and both would also make risk takers more accountable for their activities. The chapter begins by looking at the Basel II and subordinated debt proposals. It then turns to some of the difficulties that have been raised with their implementation, especially on a technical level. The chapter concludes by discussing some of the competitive and coordination issues that underlie many incentive-based approaches to financial regulation.

The Victorian economy was a market economy like no other — bigger, faster, richer, and more encompassing than man had previously seen. The tentacles of the market spread to every town and village, to every shop, to every place of work, binding buyers and sellers in a relationship of mutual exchange. This chapter examines the shifting attitudes towards market efficiency and effectiveness. It looks at a number of dilemmas about the working of their market system that exercised the thoughts of Victorians. What did they say, and what did they do, when the discipline of the market appeared too harsh or too lax, and how, and in whose interests, did they attempt to restrain or redirect this discipline? In three separate sections, the chapter considers cases of market discipline, of market indiscipline, and at ways in which the market itself was disciplined from outside.

This chapter considers the role of market discipline and whether it can be relied upon as the only tool of financial regulation. It argues that if this is true, there needs to be at minimum an incentive-compatible framework in place a priori. The chapter begins by briefly considering the “incentive problem” in regulation using a principal-agent framework. It then considers the design of an incentive-compatible regulatory system that encourages prudent behavior and efficient financial intermediation. The discussion continues by assessing the nature of the tradeoff between incentive- and rule-based regulation by analyzing the interaction between regulatory and agency incentives. The chapter concludes by considering the challenges in designing appropriate incentive mechanisms to regulate financial markets through market discipline.

The structural power of finance in sovereign debt crises is a product of the financial sector's position as the principal creator of credit-money within the capitalist economy, and it revolves around its capacity to withhold the short-term credit lines on which all states—as well as firms and households—depend for their reproduction. This chapter discusses the three enforcement mechanisms of debtor compliance through which the structural power of finance is hypothesized to operate, specifying in each case the precise conditions and countervailing forces bearing on their overall strength and effectiveness. These mechanisms are market discipline; the conditional emergency lending by creditor states and international financial institutions; and the intermediary role fulfilled by domestic political and financial elites inside the borrowing countries.

This chapter and the next outline the benefits and costs of contracting out. While there is merit in separating costs from benefits, and that is how managers intuitively think of the issue, the separation is not always easily achieved, and many of the concepts raised under the heading of benefits also appear under the guise of costs. Hence, costs and benefits become two sides of the same coin, which may not be particularly helpful as a framework for decision‐making. Aspects of the benefits of contracting out are addressed in this chapter by looking at the structure of production, core activities and core competencies, the force of competition, competition and quality, the discipline of the market, and flexibility. The benefits of contracting out are summarized as specialization, market discipline, flexibility, and cost savings.

This chapter discusses the rhetoric, the semantics, and the reality of ‘market discipline’ in the 1990s. It begins with a discussion of what financial ‘markets’ actually do and in what sense one can speak of ‘markets’ as performing such functions differently from other institutions. In particular, it discusses the specifics of information processing in different institutions and different governance structures. Finally, the chapter returns to a discussion of ‘market discipline’ and corporate governance.

Free riding is endemic. But it is not the type of first-order free riding that politicians and EU officials publicly chastised. Instead, fiscal policy coordination is burdened by a serious internal enforcement problem; that is, second-order free riding. The argument presented here is different from the usual decrying of a lack of enforcement in fiscal policy coordination, which is said to invite member states to engage in rampant fiscal free riding. This chapter contests that without internal enforcement within the EU, fiscal policy coordination has come to rely on market discipline with dire consequences for its members. The chapter demonstrates that, in contrast to fiscal rules and intergovernmental agreements, the incentives provided by market discipline shape public finances.

Following the crises in emerging market economies, beginning with that of Mexico in the mid-1990s, the adoption of internationally recognized standards and codes (S&C) of financial best practices came to be seen as a way of strengthening the international financial system. The S&C initiative was launched as such in 1999, but included within its scope work on standards for the different areas which had already been under way for some time. This chapter evaluates progress so far and considers some of the basic assumptions of the S&C initiative. In particular, it examines how far S&C can be instrumental in preventing financial crises, and focuses on issues raised by the initiative from a developing-country perspective. It devotes special attention to both the process of surveillance of S&C by the Bretton Woods institutions (BWI) and to the information which this process generates. In this context, it appraises the use of this information by the private sector whose increased engagement with emerging markets is a major part of the rationale of the exercise.

Looking ahead, the legacy of the crisis years shapes fiscal policy coordination. The two main aspects of change considered in this chapter are purview and pliancy. First, fiscal policy has ceased to be defined in narrow ‘low-deficit’ targets and instead is set to encompass a twin notion of free riding: growth free riding and stability free riding. Second, fiscal policy coordination has become more flexible and as a result more adaptive to the challenges of sound public finances in the twenty-first century. While the institutional architecture for collective action has been strengthened, there is little reason to be optimistic as to the containment of endemic second-order free riding. Member states, this chapter argues, are continuing to rely on market discipline as the erratic enforcer of rules they are unable to bring to bear amongst themselves.

In recent years, Argentina has undertaken a sweeping reform of its system of prudential supervision, particularly in the aftermath of the tequila crisis in 1994, by using greater reliance on market discipline to promote a safe and sound banking system. This chapter outlines what changes Argentina has made in its supervisory system and assesses how well these changes have worked to create credible market discipline of the banking system. The chapter is organized as follows. Section 5.2 summarizes the experiences with privatization, foreign entry, consolidation, bank failure, and depositor loss. Section 5.3 focuses on differences in bank deposit interest rate risk premiums and in deposit growth, with an emphasis on the degree of diversity within the system with respect to these measures of market discipline. It then develops a framework for identifying links between fundamentals that affect bank default risk and market reactions to that risk (as seen through higher interest rates on deposits and lower deposit growth). Finally, it considers evidence on the effectiveness of market discipline in constraining bank risk taking. Section 5.4 concludes. A commentary and discussion summary are also included at the end of the chapter.

This chapter examines the history of the civil service in Great Britain. It suggests that the revolution in Whitehall during the last two decades of the twentieth century transformed the civil service, and that many of the public utilities nationalised by the post-war Attlee government were privatised. Other major changes include the reduction in the size of the civil service and the application of market disciplines to it.

This chapter examines five points about the powers of the Victorian State. The first is that the remarkably deep and broad legitimacy that Victorian Britons conferred on their agencies of government was largely predicated on what those agencies did not do: spend too much of the taxpayers' money, or blatantly privilege some sectional interests at the expense of others. The second point is that the ostensibly ‘minimal’ Victorian State was nevertheless a strict moral disciplinarian that was armed with formidable powers to force self-reliance, sobriety, orderliness, and sexual decency on the reprobate, most notably paupers, prisoners, and prostitutes. The third point is that the Victorian State's attempts to impose market discipline on the poor obliged it occasionally to intervene in the market itself in an effort to make the living and working conditions of the poor broadly tolerable. The fourth point is the centrality of the local agencies of the state in the delivery of non-military services. The last point is that the imperial and social crises of the fin-de-siècle challenged traditional notions of the proper limits of government and triggered the rapid expansion of the responsibilities and fiscal capacities of the state. The end result was an Edwardian State that possessed broader powers than its Victorian predecessor, not only to promote a more capacious notion of the ‘common good’ but to punish those who were thought to pose a threat to it.

This chapter presents two perspectives in the theoretical discussion of bank bailouts. The moral hazard perspective theorizes the disadvantages of government support by demonstrating that the possibility of future bailouts leads banks to behave in a less cautious manner. It relies on the imaginary of a competitive setting, where market discipline is the most effective tool to shape the behavior of individual firms. On the other hand, the too-big-to-fail perspective considers that firms are never entirely disconnected from one another and thus cannot behave as isolated units. It argues that finance is marked by systemic features, and market discipline is incapable of dealing with systemic risk. Regulatory interventions, including bailouts, respond to this need to deal with the industry as a collective entity. The chapter then discusses how this theoretical discussion translated into practical consideration.

This chapter considers the determinants of fiscal policy outcomes during the Consolidation Years 2011–14. It disagrees with the claim that Europe is under the spell of an austerity illusion. Echoing Chapter 5, it finds that member states’ fiscal consolidation was by and large in line with domestic fiscal space. Proponents of fiscal rules would credit the strictures of the Stability and Growth Pact (SGP) or newly created debt brakes for bringing about consolidation. Yet there is no convincing evidence that these rules mattered for fiscal policy outcomes. Instead, financial market pressure mattered—this holds for the Stimulus Years and Consolidation Years alike. Market discipline is not felt equally across the EU. A prominent emerging fault line runs between program countries and those who fear the threat of market panic on the one hand, and credit countries who remain largely insulated from the vagaries of international capital markets on the other.

This chapter examines sovereign creditworthiness as a problem in building sub-national fiscal capacity; why it matters; why it generates controversy about its purpose; and how it relates to historic grand bargains about the basis of national cohesion and exhibits path dependency. It makes a distinction between formal and material sub-national fiscal capacity, emphasizing the importance of structural imbalances, regional balance sheets, ‘stand-alone’ fiscal capacity, and ‘system strength’. The chapter highlights the distinctive characteristics of sub-national fiscal governance. It also shows the growing significance of international credit ratings and EU fiscal surveillance, leading to tightening of hierarchical controls and of market-based discipline. The chapter examines the determinants of sub-national credit ratings. A comparison is made of sub-national fiscal capacity in the United States, Belgium, Britain, France, Germany, Italy, and Spain. The conclusion considers the reframing of sub-national fiscal governance under EMU and economic and financial crisis.

This chapter describes the microeconomic consequences of capital controls. It is noted that capital controls can decrease the supply and increase the price of capital, making it more difficult for many firms to obtain financing for productive investment. Capital controls also appear to have widespread effects on market discipline and the allocation of capital across firms, effects that are likely to reduce productivity and growth. They can cause widespread distortions in the behavior of firms and individuals. Thus, the studies surveyed in this chapter present compelling empirical evidence that capital controls can influence the supply and cost of capital, market discipline, the allocation of resources, and the behavior of firms and individuals. Several studies also find that the effects of capital account liberalization vary across types of firms, reflecting different preexisting distortions under capital controls.

This chapter examines whether there are financial policies that can prevent financial crises in emerging market countries. It proposes a framework for understanding what a financial crisis is in emerging market countries and the dynamic process through which these crises occur, and uses this framework to determine particular financial policies may help to prevent financial crises. This chapter analyzes two basic areas of financial reform including prudential supervision, capital controls, market-based discipline.