Presentation on Lessons from Financila Crisis: at teh 13th Intrenational Conference on Banking & Finance, October 2011 in Ostrava, Czech

1. The Need for Consolidating
International Financial
Regulatory Architecture: Case for
a Global Supervisor
Uzma Ashraf, Douglas W. Arner

2. Abstract
• There is need for harmonization of regulations and rules
and for coherence in the functioning and the performance
of the governing bodies
• And the activities of the regulatory and supervisory
forums including BCBS, G-20, IMF/ WB, OECD, FSB
• stability of international law and international legal
system itself is being threatened due to this „fragmented‟
responses
• Result: multifarious platforms; sporadic responses to
crisis; patch work of regulatory response

3. Why the need?
• The severity and duration of crisis has brought us new
developments, we may call:
– “globalization of crises”, (requires globalized
solutions/ responses, eg G-SIFI
– Global financial system and global economy are
interlinked closely
– National crisis may turn into international or global
quickly
• International institutions like IMF, ECB, FSB, G-20
etc emerged as indispensable particularly in recent
European sovereign debt crisis

4. Options
• Leaving it as it is i.e, on the market forces
• Empowering the existing structures
• a set of common minimum standards for universal
adoption and implementation (e.g., to start with,
depositor insurance), these coordinated efforts may
bring stability to the IF architecture and thereby
strengthen IFL itself
• Possibility for a brand new Global Supervisor under
the changed circumstances, to reconcile the domain of
the regulated with that of the regulator (Eatwell, et.al,)

5. contd..
• Exploring the case for IMF, if takes over the role of a
global supervisor to set forth consolidated policy
measures for adoption, ensuring its implementation
(Alexander, Dhumale, & Eatwell, 2006)
• What IMF for: analytical input/reports; the supply of
international liquidity (for global financial safety
nets); exchange rate and capital flow regimes (for
capital flow management); option to issue SDR on cap
markets to raise funds; SDR bond; LoLR role; Global
Umpire…
• To find an appropriate balance between the free
market paradigm and regulation

6. Findings
• The world needs a regulated financial market
environment as the markets and products have become
essentially global whereas the regulators & supervisors
have restricted scope
• the response from the policy makers remained tepid World
Economic Outlook (WEO): Slowing Growth, Rising Risks, September 2011)
• the most important challenge that our economy is facing
today is not the recession itself but the absence of
suitable “tools” to deal with it
• a well concerted action can only make a difference

7. Historical overview- IFIs and IFRs
• 1945-1970: years of peace & stability
(Bretton Woods; centralized system of payments and exchange
rates; Uniformity of system)
• 1980‟s: Industrialization & free market
(complex financial products & transactions; financial
intermediation)
• 1990‟s: Globalization
(innovative financial products; market driven forces, led to a „gap‟
between the regulated and regulator)
• 2000‟s: further intensification, liberalization (GLBA ,Financial
Services Modernization Act) leading to crisis

8. What purpose financial regulation &
supervision serve
• Contextualizing the objective
• Regulations are defined as a set of rules and standards
that govern financial institutions
• Main objective is to foster financial stability and to
protect the customers of financial services (Larosiere
2009).
• supervision, is “the process designed to oversee
financial institutions in order to ensure that the rules
and standards are properly applied”..
• If the above is true. Then why not to have a consensus
and move ahead for a global overseer?

9. Nature of IFR: Structural deficiencies
• Soft law based on laissez-faire (GLBA)
• Internationally agreed standards
• Implementation through voluntary adoption
• Force of sanction only through moral pressure
(Do we have morals in finance/ business?)
• the rating agencies & the argument for moral
peer/pressure, however the balloon of RA
pricked in 2008 (retrospectively a black swan
cf Taleb‟s Black Swan)

10. Structural deficiencies-FSA
• FSA proposals:
– College of supervisors for complex, cross border
financial institutions
– Establishment of European Cross border Bank- an
independent body to replace Lamfalussy committee,
with:
• regulatory powers
• overseer & standard setter
• macro-prudential analysis
• The initiative is partial in scope but a step forward in
right direction, calling for further consolidation

11. Structural deficiencies-Basel Capital
Accords
• G-10 Governors set up BCBS, membership gradually
increased, almost universal
• First Concordat 1975: first time in the history of IFR, the
principle of joint responsibility between home and host
supervisors was established for the supervision of foreign
banking establishments
• Revised Concordat 1983: the principle of consolidated
supervision to be adopted by the authorities.
• Information supplement 1990 established the process of
regulation through based on consolidation principle

12. Basel I- assessment
• Minimum standards 1992
• Market charge introduced through Market Risk
Amendment 1996 (compromising capital requirements &
quality in 1996 proved a major mistake)
• Core principles of effective banking supervision 1997 but
• Basel remained inflexible and could not grow as the
financial markets were growing both in intensity and
complexity
• Basel recommendations provided a blue print/ concept of
harmonization.
• But it was essentially the first baby step not the whole
process; and this led to Basel II

13. Basel II 1992
• three pillar structure; (i) capital adequacy, (ii)
supervisory review, and (iii) market discipline through
necessary disclosures.
• But Basel II remained inherently weaker in its
contents (Larosiere) and,
• Asian Financial crisis despite having Basel II
• Amendments to the Basel Accord
• „Contents‟ critique/ „were Basel II regulations
sufficient‟?
– harmonization missing in:
– regulatory bodies; regulatory content; authority; line
of action/ a well concerted response to crisis situation

14. Pre and Post- crisis International
financial architecture
• Structural weaknesses / counter developments:
– Voluntary & sporadic adoption
– Reversing GSA of 1930‟s to repeal New Deal‟s
strict system of „regulatory capitalism‟ derived from
Keynesian „command & control‟
– GLBA: Gramm-Leach-Bliley Act, 1999 (cf
European FSMA), free market ideology (Wood;
Randall; Kroszner; Santos)

15. Pre and Post- crisis International
financial architecture
• Trend: Increasing gap btw the regulated &
regulator‟s respective domains
– Universal banking and originate-to-distribute
business models (including securitization)
– Race for „technological innovations‟(products) and
„innovative strategies‟ (eg SIVs)
• First trigger: Lehman‟s fall & absence of
contingency plan; fragmented approach; delay
in response (same with Northern Rock)

16. Regulatory Response
• Fragmented responses:
– US: Volcker‟s Package of legal reforms through Dodd-
Frank - proprietary trading & consumer protection (the
need is for more here e.g. depositor insurance)
– UK
• G- 20, FSB & BCBS
– G-7‟ comprehensive statement: Oct 2008; biggest move-
endorsement by full membership of IMF, WB, EU, FSF)
– G-20 Action Plan: November 2008
– FSF Consultation report by G-7 governors: IMF, BCBS,
IOSCO, IAIS, IASB, CPSS, CHFS, BIS including
national authorities.

17. Regulatory Response contd..
• IMFC‟ emphasis for a full scale regulatory
reforms both for domestic and cross border
regulations in a medium to long term agenda
• IMF governance reforms: lagging far behind
(20 countries with 19% voting power for
quota reforms 2010 ; the scheduled date is
October 2012)
• Basel III

18. Challenges & Need
• One of the underlying causes of 2008 crisis:
Divergence btw domestic regulatory structures
& that of global finance
• IFIs: international in life & national in death
and this necessitates more coherence (FSB‟s
report (April 2008) prescribes establishment
of a college of supervisors for such crisis
management)

19. Challenges & Need contd..
• For example the higher ratio requirements
under Basel III may push high risk products
from regulated banking sector to unregulated
non-banking sector of economy (hedge funds,
trading houses, private equity, energy firms etc
etc)

20. Recommendations
• Macro-economic measure e.g. Deposit guarantee
(in late 1990‟s after Asian crisis, it was
emphasized, but never implemented)
• Unrealistic growth projections out of a failure to
admit flawed policies (Fischer 2001)
• Grand over haul vs interior decorations (e.g.
Volcker vs Fischer)?
• For International Trade Law and International
Monetary Law, WTO and IMF & WB sole e
authorities respectively

21. Recommendations contd..
• Global financial regulator for global financial
markets (Alexander in Ferran and Goodhart
2001).
• an absolute need to reform the existing
regulatory forums to make them effective and
meaningful in their universal role around the
globe through harmonization and
consolidation.