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Financial Risk Management: Models, History, and Institutions by Allan M. Malz

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CHAPTER 15

Financial Regulation

Like most industries, financial services operate in a legal and regulatory framework that privileges some activities and constrains others. The regulatory framework has an enormous impact on financial firms’ risk management and on overall financial stability.

As we saw in Chapter 1, the financial services industry has been regulated in recent decades in a less overtly intrusive way than a half-century ago. Certain interest rates were subject to ceilings, fees and commissions for intermediating many financial transactions were set by law or by semipublic authorities, and different types of financial firms were limited in the range of activities permitted to them. In recent decades, and up until the subprime crisis, the trend was away from specific controls and prohibitions. The major regulatory initiatives, rather, focused on setting risk capital standards for banks and other intermediaries.

Public discussion of the subprime crisis has been channeled largely through the topic of financial regulation. Many observers have identified inadequate or faulty regulation as the major cause or enabling factor of the crisis. As a result, the regulatory landscape is in a state of greater flux than at any time in living memory. In the United States, a major legislative bill, the Dodd-Frank Wall Street Reform and Consumer Protection Act (H.R.4173, “Dodd-Frank”) was passed in July 2010.

Dodd-Frank left the institutional framework of U.S. regulation largely intact, ...

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