Alternative Approaches to Regulatory Structure
Jeff CarmichaelChairman
Carmichael Consulting Pty Ltd
Outline
• Main models that have emerged around the world
• Key issues for consideration
• How the various models handle the issues and mitigate the risks
• Making regulation effective
Conclusions: There is no perfect structure Structure matters – but it doesn’t guarantee good regulation
Some Definitions
• Regulation Vs Supervision• Regulatory structure• Institutional structure• Unified structure• ‘Mega’ regulators/‘Super’ regulators/ ‘Integrated’ regulators
Main Models
• Institutional (31)
• Mexican (9) – Banking and securities
• South African (3) – Non-banks
• Canadian (13) – Banking and insurance
• UK (10) – unified outside CB
• Singaporean (3) – unified within CB
The ‘Big 8’ Issues
1. Role of the Central Bank
2. Cultural conflicts
3. Objective conflicts
4. Co-operation and co-ordination
5. Size
6. Regulatory arbitrage
7. Financial conglomerates
8. Political dynamics
Role of the Central Bank
• Systemic stability role is undisputed
• Case for regulatory role:• Banks are key to systemic stability• LLR• Banks and monetary policy
• Specific Emerging Market issues:• CBs are typically more independent• CBs are typically better resourced
Case Against CB Regulatory Role
• Case against:• Conflicts between regulatory and monetary policies• Reputational risk
• On balance – don’t separate banking regulation from CB unless there are powerful other reasons for doing so
Conflicts of Culture
• Conduct (policemen) Vs Prudential (doctor)
• Different skill sets are needed
• Different approaches are needed
• There are risks in bringing them under the same roof
• But there can also be benefits from exposing the cultures to each other
Conflicts Among Objectives
Regulatory Objectives:• Systemic stability – payments and macro policy• Safety and soundness – prudential• Fairness – conduct• Efficiency – competition
Conflicts:• Prudential/conduct• Prudential/competition
Handling conflicts:• Internal Vs external
Co-operation & Co-ordination
• Co-operation and co-ordination are needed under any structure
• But some are more demanding than others:• Institutional – conglomerates• Canadian – multiple regulators• Unified – across departments
Size
• Can be the ‘deal breaker’
• Very small countries:• Shortage of regulatory skills• Economies of scale• Cost• Careers
• Very large countries:• Risk of dominance• Risk of over-regulation
Regulatory Arbitrage
• Effective regulation demands neutrality
• Arbitrages arise from gaps and overlaps
• Institutional structure is exposed
• Choice can lead to arbitrage
• Conglomerates can exploit arbitrage
• Arbitrage not limited to prudential regulation
• Higher levels of amalgamation should lower risk of arbitrage
Financial Conglomerates
• Emergence of conglomerates has challenged traditional demarcations due to:
• Complexity of structures• Intra-group exposures and lack of transparency• Contagion• Lack of information to specialist regulators
• Need to capture totality of risks
• Regulatory structure should reflect industry structure
Political Dynamics
• Change has many stakeholders
• Change needs a champion who can deliver
• Change can be a catalyst for delivering the undeliverable (powers, break up ineffective coalitions, improve conditions)
• Nevertheless, resistance is inevitable and should be anticipated
• A compromised outcome may be worse than the status quo
Institutional Model
• Positives:
• Leaves banking regulation with CB
• Separates cultures (to a point)
• Facilitates tailoring
• Avoids over-concentration of power
• Negatives:
• Can lack scale
• Potential for capture
• No real synergies
• High cost
• Reputational risk for CB
• May have conflicts of objectives
• Potential for gaps and overlaps
• Doesn’t deal well with conglomerates
Risk Mitigation – Institutional Model
• Co-ordination:• Council of regulators• Lead regulator• Cross-board memberships
• Gaps – power to deem institutions to require regulation
Mexican Model
• Positives:
• Some economies of scale and career opportunities
• Doesn’t over-concentrate power
• Less costly than institutional
• Can deal with bank/securities conglomerates
• Negatives:
• Can lack scale in insurance
• Insurance exposed to capture
• No real synergies
• Cost may still be high
• Potential cultural clashes
• Possible conflict of objectives
• Gaps and overlaps – congloms.
• Difficult to keep in CB
Risk Mitigation – Mexican Model
• Co-ordination:• Council of regulators• Lead regulator• Cross-board memberships
• Gaps – power to deem institutions to require regulation
• Cultural clash - silos
South African Model
• Positives:
• Leaves banking regulation with CB
• Economies of scale in non-bank regulation
• Better balanced than Mexican
• Power no overly-concentrated
• Deals with non-bank conglomerates
• Negatives:
• No real synergies
• Relatively high cost
• Bank/non-bank conglomerates
• Culture clashes
• May have conflicts of objectives
• Reputational risk for CB
Risk Mitigation – S.Af. Model
• Co-ordination:• Council of regulators• Lead regulator• Cross-board memberships
• Gaps – power to deem institutions to require regulation
• Cultural clashes - silos
Canadian Model
• Positives:
• Aligns structure with objectives/less cultural clash
• Economises of scale in prudential regulation
• Deals with ‘prudential’ conglomeration
• Stronger career prospects
• Reduces arbitrage opportunities
• Maximises synergies
• Negatives:
• Removes banking
• Concentrated power
• One-size-fits all
• Co-ordination still needed
• Conglomerates with securities
Risk Mitigation – Canadian Model
• Co-ordination:• Council of regulators• Cross-board memberships
• Concentration of power – legislate strong governance and accountability
UK Model
• Positives:
• Matches structure with industry – conglomerates
• Minimises arbitrage
• Very broad career prospects for staff
• Economies of scale/lower costs
• Resolve conflicts internally
• Synergies
• Negatives:
• Concentration of power
• Conflicts of objectives
• Conflicts of culture
• Banking away from CB
• Possible one-size-fits all
Risk Mitigation – UK Model
• Co-ordination:• Cross-board memberships with CB
• Power – need for very strong governance and accountability (e.g. UK)
• Culture – silos
Singaporean Model
• Positives:
• Leaves banking regulation with CB
• Very cost effective
• Good career prospects/synergies
• Maximises scale economies and synergies
• Eliminates arbitrage and deals with conglomerates
• Negatives:
• Extreme concentration of power
• Clashes of objectives
• Clashes of culture
• Moral hazard on safety net
• Reputational risk
• One-size
Risk Mitigation – Singaporean Model
• Moral hazard - need to educate public about safety nets
• Power – needs very strong governance and accountability (rare in CBs)
Choosing a Structure
• Every structure has some strengths and weaknesses
• In practice, moves towards some form of amalgamation have been prompted mainly by:
• Cost/scale• Reducing regulatory arbitrage• Conglomerates
• In practice, any structure can work if it has the right foundations and commitment
Independence and Accountability
• Independence is to ensure clarity of objectives
• Regulators need independence to:• Develop, implement and enforce policy
• Independence is determined by:• Appointment and dismissal terms• Indemnities for staff• Relationship to Government
• The greater the independence, the greater should be the accountability
Governance
• Refers to how the agency is run:• How it deals with conflicts• How it ensures it is doing its job effectively
• Requires internal structures such as:• Board• Risk Committee• Code of conduct• Delegation structure and internal controls• Dispute mechanisms
Powers
• Issue of how much ‘black letter’ law
• Ideal powers include:• Licensing/de-licensing• Regulations/standards• Reporting obligations• Monitoring and surveillance• Directions• Investigation• Enforcement
• Transfers • Statutory management• Winding up• SROs• Information sharing
Funding
• Independence of funding is critical (independent but accountable)
• Adequacy of funding is critical
• Best model is industry funding
Summary
• Regulation is a ‘hot’ topic• Regulation matters – but it is not a panacea• International trend has been to amalgamate into
one of a number of different forms• No model is perfect and requires a balancing of
issues:• Role of CB
• Cultural clashes
• Conflicting objectives
• Co-operation
• Size
• Regulatory arbitrage
• Conglomerates
• Political dynamics
Alternative Approaches to Regulatory Structure
Jeff CarmichaelChairman
Carmichael Consulting Pty Ltd
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