RETHINKING THE PRINCIPLES OF BANK REGULATION: A REVIEW OF ADMATI AND HELLWIG'S BANKERS' NEW CLOTHES - Essay Example

The system that will be able to regulate and keep the deposits safe needs to be put in place (Admati & Hellwig 17). In order to safeguard depositors’ finances, the banks are required to accumulate more equity of their own so that they can not only attract investors and other depositors, but also be able to guarantee them the safety of their investments of deposits. Admati and Hellwig argue that banks need to have more equity of their own because if the value of its assets were to significantly decline, then the losses would only be borne by the owners of the banks with no affect on the banks ability to repay all its depositors until the owner’s equity was completely exhausted (Admati & Hellwig 31).

This is one major reason why the banks should have more equity because the depositors are comfortable knowing that their money is safe. The second reason why the banks should ensure they have significant amounts of equity it to ensure that the moral hazard in banking is completely solved. This means that the owners who control the bank would have more incentive to control risk of big losses, therefore, reducing the probability of investment losses large enough to affect depositors. Availability of banks equity means that the profits will be shared equally between both the small and big investors and shareholders.

This keeps the banks safe from maneuvers such as the take-over bids by the big decision makers of the banks. Ultimately, the availability of equality attracts more depositors and the bank is able to receive loans and other outside contributions at lower interest rates because it has its own capital that acts as its security. It has also been discovered that though important, equity can also serve as a disadvantage for the banks. Equity is generally expensive for these banks and increasing it will have a direct effect on the lending rates and would