What is the purpose of prudential regulation?

The purpose of prudential regulation is fundamentally centered around ensuring that financial firms operate safely and effectively manage risks. Prudential regulation establishes requirements that institutions must adhere to, which help maintain the stability of the financial system and protect the interests of depositors and investors. By focusing on the safety and soundness of financial entities, this framework aims to prevent failures that could lead to significant economic disruption.

The emphasis on risk management reflects the objective of maintaining firm solvency, thereby reducing the probability of crises that could arise from inadequate oversight or mismanagement. This regulatory approach is crucial in safeguarding the overall financial system against systemic risks and ensuring it functions efficiently.

While enhancing competition, protecting consumer interests, and monitoring employee performance are important aspects of the broader regulatory landscape, they do not capture the primary goal of prudential regulation. These areas are addressed by different regulatory measures and frameworks that serve complementary roles within the financial system.