Privatization of the banking sector is usually viewed as the way to create market-oriented banking sectors in formerly planned or transition economies. However, bank privatization is only part of the requisite story. Market-oriented banking requires the disengagement of the state from direct governance of banks (whether they are state-owned or privatized) and the simultaneous development by the state of an effective regulatory framework for the banking sector. At one and the same time, the governments should be getting out of the banking business and getting into the regulatory or supervisory business. It is no wonder that managing these two seemingly contradictory tasks is often so difficult.

In practice in the economies in transition (EITs), bank privatization involves only partial divestiture of the state's ownership claims. Hence, a necessary condition for privatization to be deemed a success is that the state remain as a passive investor only. Successful regulatory policy requires the state to assume an arms' length role as regulator and supervisor of the banking sector without any direct involvement in the conduct of the banking business. The simultaneous tasks of disengagement from banking and involvement in regulation are the topic of this chapter. We undertake a comparative analysis of the experiences in three Visegrad countries (Czech Republic, Hungary, and Poland) to determine the approaches that are most likely to result in the independent governance of the banking sector and an effective regulatory structure.

Transition policy should be based on several fundamental principles. To begin, governance of the banks must become independent of the state.