The most significant recent reform in international bank regulation has been in the area of capital adequacy, first instigated by the BASLE Committee and formally introduced in 1988. These reforms have had, and continue to have, significant economic consequences. However, the concept of capital adequacy and its usefulness in bank regulation has attracted a significant amount of criticism from the academic community. This raises the question as to why it was that capital adequacy was adopted as a tool for international bank regulation, despite major concerns with its rationale and effectiveness. Although the topic of capital adequacy has attracted an increasing body of research, the reasons behind the adoption and implementation of capital adequacy by international bank regulators have remained unexamined in the literature. This paper investigates the rationale for capital adequacy, citing documentary and interview evidence surrounding the key decisions, and in the process traces the dynamics of international bank regulation. The principal finding is that regulatory reform was influenced by tradition, convenience and likely acceptability rather than by any serious considerations of regulatory objectives and potential effectiveness of the capital adequacy reforms. This corresponds to findings about the origin and dynamics of regulation in the political economy literature.
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