Can Emerging Market Bank Regulators Establish Credible Discipline?

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Abstract
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.

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