Financial Regulation in Finland from the 1950s until the 1980s Stability at What Price?

This paper provides an account of the origins and structure of the Finnish system of financial regulations which was prevalent in the post-war decades until the deregulation of the 1980s. Despite considerable macroeconomic volatility, the banking sector in Finland was remarkably stable. There were no significant bank failures over this period of more than 40 years, and credit losses were of no real importance either. It is conjectured that the stability of banks in the period was a product of the suppression of competition in the financial sector, instead of supervision or prudential regulation in the “modern” sense. Lending rates and capital movements were controlled. Cartel agreements between banks were actively supported by the authorities, e.g. by making the tax exemption of bank deposits conditional on the terms agreed by the banks’ deposit rate cartel. The Finnish prudential regulations gradually weakened in the course of the decades of regulation. The first capital adequacy regulations had been included in the banking law of 1933, where it had been stipulated that in commercial banks, capital and reserves should measure up to 10 per cent of the bank’s liabilities. In 1946, this was reduced to 6.7 per cent, and in 1969, to 4 per cent. Also in 1969, universal banking rights were granted to savings and cooperative banks, from which only 2 per cent of capital and reserves were required (also in relation to their liabilities). The banking practices, low capital ratios and high costs of banks, which became the norm in the decades of regulation, made the banks very vulnerable in the competitive and deregulated environment which they had to face after the deregulation that took place in the mid-1980s. It is concluded that the incompatibility of prudential regulation with the more competitive environment of the late 1980 was a reason for the fragility of the banks which was revealed in the Finnish banking crisis of the early 1990s. JEL: N24, G28.