Does Regulatory and Supervisory Independence Affect Financial Stability?

Since the crisis financial regulators and supervisors have been given increased independence from political bodies. But there is no clear evidence of the benefits of these reforms on the stability of the banking sector. This paper fills that void, introducing a new dataset of reforms to regulatory and supervisory independence for 43 countries from 1999-2019. We combine this index with bank-level data to investigate the impact of reforms in independence on financial stability. We find that reforms that bring greater regulatory and supervisory independence are associated with lower non-performing loans in banks’ balance sheets. In addition, we provide evidence that these improvements do not come at the cost of bank efficiency and profitability. Overall, our results show that increasing the independence of regulators and supervisors is beneficial for financial stability.