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Recent Regulatory Developments and

the Systemic Dimension

Andrew Large SCA Annual Conference

Abu Dhabi 25 January 2011

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Outline

1. Avoiding crises: What went wrong? [slides 3- 6]

2. Systemic stress: causes [7-9]3. Systemic issues: propositions and

challenges [10-15]4. Creating a macroprudential/systemic

framework [16-26]5. What is being done and conclusions [27-

29]

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1. Avoiding crises: What went wrong in 2008?

• Regulatory architecture?

• Policy vacuum?

• Delivery of policy?

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Avoiding financial crises3 factors

• Role of architecture

• Role of individual bank supervision [microprudential policy]

• Macroprudential framework– Mitigating risks of financial crises– New policy area for many jurisdictions

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Architecture 1

• Many models: success/failure random• Unitary

– UK failed– Japan neutral– Singapore succeeded

• Twin peaks [separate prudential authority]

– Australia succeeded• Twin peaks [microprudential within the CB]

– Netherlands failed– Canada succeeded

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Architecture 2 Who is now doing what?

Random moves! But trend overall to twin peaks

• Moving to twin peaks [supervision at CB]– UK – Belgium

• Moving to unitary– Indonesia

• Creating separate CP regulator– USA

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2. Systemic stress:caused by what and whom?

• Root cause– Excessive broad leverage/borrowing/debt

• Indicators of systemic tension [‘bubbles and froth’]– Asset prices [equities; real estate]– Credit spreads– Maturity mismatch, inadequate liquidity buffers– Other compromised risk areas

• Sparks can then cause crisis!– Random shocks [triggers are never obvious nor

predictable]

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Leverage: who creates? Who uses?

• Creators of leverage– Banks/quasi banks– Insurance/guarantees – Products … embedded leverage

• Users of credit– Consumers– Companies– Government– Other financial institutions [incl hedge funds, private

equity]

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How to dampen leverage?

• Act on root cause creators of credit: adjust the cost of creating credit – or prohibition/limits for individual offenders

• Direct restrictions on users partial or unreliable (but signalling effect):– arbitrage – squeezed balloon syndrome

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3.Systemic issues: four propositions

1 Existence of policy gap

2 Plethora of microprudential [regulatory] initiatives won’t do

3 International issue: needs national initiatives

4 Relevant for all jurisdictions

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Proposition 1 Policy gap

• Existing relevant policy areas – Monetary – Microprudential [regulatory, supervisory]– Fiscal– Competition

• Where is systemic/macroprudential policy???• Historically under central bank, but “modern

monetarists ignored this aspect”

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Proposition 2Plethora of microprudential

[regulatory] initiatives won’t do• Basel, FSB, G20, EU, jurisdictions

– Capital and liquidity– Structural/Volker rules– tbtf/living wills– AI, ratings– Rem incentives– Accounting standards…….– Etc, etc

• Where is the oversight?• Are they joined up? By whom?

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Proposition 3 International issue: needs national

initiatives

• Global markets but no global government

• But: national level implementation vital - where the laws and fiscal authority reside

• Tough issues of cooperation!

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Proposition 4 Relevant for all jurisdictions

• The main problems were in mature economies• Too much leverage/debt in US, UK, elsewhere

in EU due to easy money• Less problem in Canada, Australia, main

Asian countries, including China• But issues are generic: they impacted

UAE/Dubai -• And so are the lessons

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Generic challenges

• Four policy areas [macro, micro, resolution, monetary]

• Several authorities [MoF, CB, regulators]• Multiple tasks across authorities: who does

what?• Choice of instruments• How to create engagement and co-ordination?• Governance [individual authorities]• Accountability• Transparency

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4. Creating a macroprudential/systemic policy framework:

deliveryA. Mandate B. Institutional vehicle for deliveryC. Legitimacy and respectD. Tasks: indicators and assessmentE. Engagement of partiesF. Instruments G. Authority to deliverH. Relationship with monetary policyI. Transparency

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Policy framework and delivery

A. Mandate/objectives

• Secure and maintain financial stability

• Overarching mandate1. Systemic conjuncture

• Identify threats• Apply policy instruments• Implement policy actions

2. Resilience of system

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Policy framework and delivery

B. What sort of vehicle?• Committee / self standing / department?• Anchor with central bank or regulatory authority?

– Respect, independence– Experience macro environment– Operational activity/nerve centre– Interface with political process – Distribution of power– Emerging practice favours central banks: but with vital

regulatory involvement• Time dimension:

– Steady state – Role in triggers and crisis?

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Policy framework and delivery

C. Creating legitimacy and respect

…politicians, bankers and credit users won’t like it! So: – Objectives politically set– Operationally independent from political process– Accountability to political process– Transparency of process and decision– Authority– Dedicated resources

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Policy framework and delivery D. Tasks

Involves several authorities: needs engagement1. A lot of data! multiple data sources– imbalances global and national– leverage– asset managers exposures and dynamic – asset prices – new products– arbitrage– measures of uncertainty / confidence and risk appetite– ….relevance is the key

2. Assessment process– tough judgements– practical vs academic

3. Policy decision ... and enforcement

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Policy framework and delivery E. Engagement of parties

– Skill sets/working knowledge not available from one institution

– Needs CB, regulators, practitioners, government

– Practical experience, crisis and steady state– Academics

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Policy framework and delivery

F. Instruments and policy tools

• Capital ratios [promising candidate!]– Gets at root cause: impacts all creators of

leverage– In use already for micro…..

• ‘Other’ policy instruments– [liquidity, remuneration, LTV ratios etc]

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Policy framework and delivery

F. Instruments: tricky areas

• Policy context– Behavioural expectations– Governance of other policymakers– Creators or users?– Political pressure– Squeezed balloons

• Calibration• Regulatory assessment• Reaction function

• Discretionary/automatic?

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Policy framework and delivery

G. Authority to deliver• Overarching oversight

– assess data

– deliver response • Overarching authority

– obtain data – enforce/influence policy decision– influence other policy areas

monetary policy

fiscal policy

etc

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Policy framework and delivery

H. Relationship with monetary policy

• Interest rates/fx rates • Monetary policy and systemic policy:

mutual impact• Combine or separate policy areas?

– Experience and capabilities– Accountability– Assessment process: band vs binary – Much to learn!

• Experience in Asia

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Policy framework and delivery

I. Transparency

• Tell people about – Data used– Assessment– Chosen policy response

• Regularity

• Impacts understanding

• Impacts expectations

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5. Systemic policySo who’s doing what?

• UK FPC Creating committee at Bank of EnglandParticipants from regulatory fieldAuthority to deliver policy instrumentsTransparent process

• Mexico Creation of Council

• USA Creation of FSOCTreasury in control

• EU/ECB ESRBNo authority over individual statesSource of influence/data/recommendation

• UAE Under discussion

• G20/FSB Peer group pressure?No global government……..Needs national machinery

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Tough questions to debate…

• Feasibility/legitimacy to create an executive reponsibility like monetary policy? 

• Impact on growth and welfare?

• Cost benefit equation?

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Systemic policy: thoughts for UAE

• Crisis impacted Dubai; issues are relevant

• Need for conscious creation and implementation of framework

• CBUAE should lead• But with engagement from SCA and

other areas of government