INTRODUCTION

It is well known that financial systems around the world can be roughly distinguished as either bank-based systems or capital-market-based systems. Whether and to what extent this distinction is meaningful is controversial. The answer depends upon what we consider. From a regulatory perspective, two prototypical forms of regulation correspond to the counterparts of this distinction, and thus we observe regulatory differences between the bank system and the capital market system.

In this chapter, I place particular emphasis on the costs of regulation and the enforcement thereof. I argue that these costs are important determinants when any given jurisdiction chooses a financial system. From this perspective, this chapter has two purposes. First, I briefly describe prototypical forms of regulation in the bank system and the capital market system. I also briefly discuss the change in the regulatory focus over time in both bank and capital market regulation. This change has resulted from environmental change in the banking and capital markets. Second, I examine the descriptive and prescriptive question of which system is, and should be, adopted in any given country once the costs of regulation and enforcement are seriously considered. The cost of writing proper regulation and the cost of enforcing such regulation are sometimes overlooked, but if these costs are taken into account seriously, we can better understand (as a descriptive matter) why the bank-based system is adopted in some jurisdictions and the capital market-based system is adopted in other jurisdictions.