The Role of Regulation in Risk Management

René Doff

Financial or prudential regulation is one of the key elements to protect a country or economic system from too high risks taken by financial institutions. Formulated in beautiful mission statements, the objective of regulators is to avoid risks in a particular bank or insurer spilling over to the real economy and damaging individual deposit or policy-holders. With the advances in the financial industry, regulators have needed to keep pace and update their frameworks accordingly. This chapter will investigate how the Basel accords in banking developed, as well as their insurance equivalent Solvency II. The key question to be posed is, given the drawbacks of risk management practices in the preceding chapters, have all those developments helped to support better risk management?

It is fair to say that risk management and regulation never develop in isolation. Risk managers implement regulations and all the requirements that come along with it. Logically, when they are observing risk practices, they are also reflecting regulation standards. At the same time, regulation has been influenced by what was available in practice. The leading institutions thereby set the standard for the

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