If we were better able to identify and monitor such free-floating risk, and in so doing, to push bank boards of directors and senior management to pay more attention to reputational risk, we could help reduce the underpricing of these risks.
Many have argued, and I think it’s a compelling argument, that ineffective supervision and enforcement of existing laws and regulations contributed to the financial crisis. By tolerating reduced transparency of risk in balance sheets and in complex institutional portfolios, as well as arbitrage around capital requirements and other prudential measures, supervision may have encouraged the underpricing of risk.