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Do Small Countries Need Banks?

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"Do Small Countries Need Banks?"

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One question posed by the ongoing meltdown in Ireland is whether, assuming the Euro survives, it really makes sense for Ireland to have banks at all. Of course Irish people will still want to lend and invest. But that could be accomplished by letting German banks open branches in Ireland. Access to banking services is an important policy priority, but it seems to necessarily entail government exposure to bad bank risk management. The normal best way to try deal with that is through regulation, but a small country in a currency union with much larger countries could deploy the ultimate regulatory solution—no banks! Let someone else do the regulating and the bailing out.

Giving up your ability to conduct monetary policy carries a heavy price, but for a sufficiently small country it should open up the chance to free ride on someone else’s banks.

Update

Tyler Cowen says over email that New Zealand sort of does this and mostly relies on UK or Australian banks. The case looks more compelling to me for Ireland or Portugal which are already in a currency union anyway.

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