The Swedish Banking Crisis
The Swedish Banking Crisis 1. Background
The Swedish financial institutions remained highly regulated since the Second World War. Two restrictions that the government imposed on commercial banks are a. A lending ceiling used to limit the lending activity of commercial banks so that the credit scale is restricted. High lending interest rate intrigues banks to pursue huge profit by extending credit to an unreasonable scale and lead to adverse selection that push the borrowers to seek for risky high profit activities. b. liquidity ratio requirement. Commercial banks are required to hold more than 50% of their assets in government and mortgage institution bonds to help financing on large government deficits, another policy used to control credit flows and credit scale as part of macro stabilization policy.
The banks, however, think of ways to circumvent the regulation. Instead of being a direct lender or borrower, banks open up services in which they act as broker between lender and borrower and cash-flow can go directly from seller to buyer in the housing market. Such an off balance-sheet activity is hard to inspect and control by the central government and it does add to the bank’s potential risk exposure.
Rapid development of financial markets: the growth of an active money market in CD and T-bill was stimulated by mounting budget deficits that was financed in the domestic market. In the early 1980s, The development in money market made the old regulations increasingly inefficient and was thought to be destructive on the structure of credit markets. So the stage was set for deregulation. 2. Deregulation
Deregulation is implemented step by step with a series of abolition announcements: a. Liquidity ratio was abolished in 1983. b. interest ceiling is lifted in spring 1985 c. lending ceiling and lending ceilings for banks and placement requirements for insurance companies went away in November 1985. d. In 1989, abolition of
The Swedish financial institutions remained highly regulated since the Second World War. Two restrictions that the government imposed on commercial banks are a. A lending ceiling used to limit the lending activity of commercial banks so that the credit scale is restricted. High lending interest rate intrigues banks to pursue huge profit by extending credit to an unreasonable scale and lead to adverse selection that push the borrowers to seek for risky high profit activities. b. liquidity ratio requirement. Commercial banks are required to hold more than 50% of their assets in government and mortgage institution bonds to help financing on large government deficits, another policy used to control credit flows and credit scale as part of macro stabilization policy.
The banks, however, think of ways to circumvent the regulation. Instead of being a direct lender or borrower, banks open up services in which they act as broker between lender and borrower and cash-flow can go directly from seller to buyer in the housing market. Such an off balance-sheet activity is hard to inspect and control by the central government and it does add to the bank’s potential risk exposure.
Rapid development of financial markets: the growth of an active money market in CD and T-bill was stimulated by mounting budget deficits that was financed in the domestic market. In the early 1980s, The development in money market made the old regulations increasingly inefficient and was thought to be destructive on the structure of credit markets. So the stage was set for deregulation. 2. Deregulation
Deregulation is implemented step by step with a series of abolition announcements: a. Liquidity ratio was abolished in 1983. b. interest ceiling is lifted in spring 1985 c. lending ceiling and lending ceilings for banks and placement requirements for insurance companies went away in November 1985. d. In 1989, abolition of