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Regulatory Reform: Integrating Paradigms


  • *The paper benefited from comments by Guillermo Calvo, Stijn Claessens, Paul De Grauwe, Eva Gutierrez, Asli Demirguc-Kunt, Marcelo Giugale, Miguel Kiguel, Michael Klein, Eduardo Ley, Eduardo Levy Yeyati, Giovanni Majnoni, Fernando Montes-Negret, Roberto Rigobon, Calvin Schnure, Constantinos Stephanou and Carol Wambeke. The paper also benefited from stimulating conversations with Michael Dooley, Vincent Reinhart, Klaus Schmidt-Hebbel and Sergio Schmukler, as well as from comments received at a conference organized by Columbia University's School of International and Public Affairs in New York, the XI Workshop in International Economics and Finance in Montevideo, workshops organized by Casa das Garças in Rio de Janeiro, the Central Bank of Argentina in Buenos Aires, financial sector authorities in Bogotá and a conference on reforming regulation organized in Madrid by the Central Bank of Spain and the World Bank. We thank Felipe Valencia Caicedo for providing research assistance. The views in this paper are entirely those of the authors and do not necessarily represent the views of the World Bank, its executive directors or the countries they represent.

Augusto de la Torre and Alain Ize World Bank
1818 H Street NW Washington DC 20433 USA and


What were the market and regulatory issues that led to the subprime crisis? How should prudential regulation be fixed? The answers depend on the interpretive lenses – or ‘paradigms’– through which one sees finance. The agency paradigm, which has dominated recent regulatory policy and provides the most popular interpretation of the crisis, seems to be influencing much of the emerging reform agenda. But collective welfare failures (particularly externalities) and collective cognition failures (particularly mood swings) were as important, if not more so, in driving the crisis. These three paradigms should therefore be integrated into a more balanced policy agenda. But doing so will be difficult because they often have inconsistent policy implications.