A regulatory authority is a public authority responsible for exercising autonomous power over any particular sector(s) to formulate policy and implement those to keep the sector(s) performing with a desired objective. It is independent from other branches or arms of the government. One such 'very important' regulator is central bank (CB) to have discipline in a country's financial sector.
A CB is created by the law of the land. The modern banking system provides CBs with considerably more rights and responsibilities. It reserves the rights and authorities to monitor and control the commercial banks and regulate them to maintain financial stability in the economy. Financial stability is of paramount importance for any economy to be able to prosper.
The CB ensures healthy competition that is beneficial to the consumers, but not necessarily detrimental to the banks. The promulgation of regulations by the CB is typically a response to a perceived market failure.
The most important regulatory power that a CB has is regulating the reserve requirements of commercial banks. It is the ratio of deposits that any commercial bank has to maintain with the central bank. Thus, if this ratio is increased, commercial banks have to deposit more money with the CB which may reduce the loanable funds of the banks. By this way CB can reduce money in the market and increase the interest rate.
On the other hand, banks get more funds to lend if this reserve requirement is relaxed. The interest rates will go down due to more liquidity. So central bank is in a position to significantly influence the operations and profits of the commercial banks.
But the bank owners in Bangladesh at present seem to have great influence in formulating banking and financial laws and policies. The Banking Companies Act has been amended to accommodate four instead of two directors from a single family. The tenure of Directors has been extended to consecutive nine years from six years.
The Finance Minister and the BB Governor seem to have taken a policy decision at a recent meeting with the bank owners. It was not a mere consultation with the stakeholders. They discussed the CRR (cash reserve requirement or cash reserve ratio) reduction initiative in a meeting with the Bangladesh Association of Banks (BAB). Accordingly BB revised the CRR at 5.5 per cent for commercial banks on bi-weekly average basis from the existing 6.5 per cent.
BB also re-fixed the repo interest rate from 6.75 per cent to 6.0 per cent. The repo interest rate determines the rate of interest a commercial bank has to pay on a loan from the BB. It has also reduced the 6.0 per cent daily basis of average total demand and time liabilities down to 5.0 per cent.
The BB Governor called a meeting with the bank owners and finance ministry officials for discussion on provision of keeping deposit money belonging to various government departments. As per the decisions made at the tripartite meeting, the government organisations have been instructed to keep 50 per cent of their funds in private banks, which were 25 per cent of the total deposit.
Corporate tax of banks has been reduced from 45 per cent to 42.5 per cent in the current national budget although there is no change in corporate tax rate of other sectors.
BAB in a recent meeting decided to bring down interest rate to 6.0 per cent on deposit and 9.0 per cent on loan. But they also asked for deposit of government funds with their banks at a rate of 6.0 per cent interest. Ideally, such a change in interest rate should have been regulated by the mechanism of BB.
Government uses its authority to compel its citizens and businesses to pay taxes and follow rules. By trying to influence how the state uses its coercive authority, businesses seek to 'buy' one or more of the government's four main mechanisms -- subsidies; control over competitive entry; regulation of product substitutes or complements; and the fixing of prices.
Nobel laureate economist George Stigler was the first to note that businesses seek to influence regulatory agencies to their advantage. The Theory of Economic Regulation was published in 1971 wherein Stigler argued that regulation is a product that, just like any other product, is produced in a market, and that it can be acquired from the governmental 'marketplace' by business firms to serve their private interests and create barriers to the entry of potential competitors. He also argued that regulation is instead 'acquired by the industry and is designed and operated primarily for its benefit.'
Stigler challenged the conventional idea that regulation arises solely to serve the public interest and demonstrated that important political advantages held by businesses can contribute to 'industry capture' of the regulatory process. He illustrated his insights with empirical evidence from state-level regulatory schemes, including trucking regulation and occupational licensing.
A significant insight emerging from capture theory is that a regulator may act, either intentionally or unintentionally, in a way that results in personal or institutional gain.
Regulatory capture in financial sector occurs when regulators become, at least partly, advocates for the financial institutions they are supposed to regulate and supervise rather than being strict enforcers of rules. This leads to lose application of regulatory rules, forbearance to regulatory infractions resulting in poor application of supervision. Frequent personal moves of individuals between regulatory institutions and private financial sector, relatively higher pay in the private sector, limited tenures, political pressures and human nature combine to encourage regulatory capture and supervisory forbearance.
Stigler's theory brought to the foreground what remains one of the most vital questions about regulatory institutions: how can they be made to work better to advance public welfare. An essential insight of Stigler and other economists who followed his lead was that all players in the regulatory regime - firms, bureaucrats, interest groups, and legislators - act as economic agents who have the interest and opportunity to advance strategic actions.
More than forty years have already elapsed since Stigler published 'The Theory of Economic Regulation'. Much has changed during this time in the global economic policy of opening up with less regulatory regime, but policymakers still know too little about how to design regulatory institutions to resist capture and enhance the broader issue of social welfare.
MS Siddiqui is Legal Economist.