GENERAL DIRECTORATE SUPERVISION 11

REFORMING FINANCIAL REGULATION AND SUPERVISION: GOING BACK TO BASICS

Fernando VargasAssociate General Director of SupervisionMadrid, 15 June 2009

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Introduction

5 questions in 12 minutes

1. Can macro-prudential supervision prevent crises?2. Do we need detailed regulation? 3. Is implementation OK?4. Should we go back to basic intensive supervision?5. Are “colleges of supervisors” supervisors, and

what happened to the lead supervisor?

Some are based on typical comments that we might hear or read

It is important to manage expectations

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“The measures currently being developed should prevent crises from occurring in the future”

As business cycles, crises are inevitable, and there will always be “black swans”.

New concept of supervision: macro and micro-prudential.

This should help to reduce the possibility of a similar situation from occurring as we have today…

…although a crisis or failure-free system is not possible (nor is it probably desirable).

Can macro-prudential supervisionprevent crises? (1)

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Can macro-prudential supervisionprevent crises? (2)So what can we do to reduce the possibility of similar events? Anticipate and detect problems as early as possible:

– early warning systems– macro-prudential analysis– stress-testing

Try to mitigate problems, including through use of acyclical/anti-cyclical measures, e.g. dynamic provisioningThree comments:

• The end product of macro prudential analysis: recommendations and ACTION. A new regulation? See later.

• Stress-tests: a helpful tool, but with limitations. Usually static, lack of data, problems with comparability and, if made public without caution, may disrupt normal day to day supervision.

• Leaning against the cycle: the need for consistency in the application of existing (v.g. advanced Basel II) countercyclical rules.

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Do we need detailed Regulation?

“Detailed regulation is the answer”

Principles vs. rules-based approach to regulation: Until the crisis - the pendulum was probably swinging towards principles-based regulation.

Now - tendency to say that regulation must be much more detailed and rules-based

No doubt there are gaps in scope, that some rules were outdated, and others were too “good-times” oriented.

But should we really try to regulate everything in detail? Costly and increases the risk of loopholes and opportunities for arbitrage.

Importance of: implementation and robust day to day supervision.

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Is Implementation OK?

No. Regulations and guidance/recommendations have not

been implemented adequately (if at all) and have not been consistent between countries.

The case of supervisory guidelines: • Guidelines have existed for a long time and cover many aspects

of risk management (although some gaps and a need to update).

• But only some of the leading institutions have implemented them adequately.

• And supervisors have not paid enough attention to implementation.

This is changing: plans in Basel Committee and CEBS. International consistency in implementation is of

fundamental importance.

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Intensive supervision and new kind of regulation?

Day-to-day supervision has to be high quality, and hands-on. In Spain, we have an intensive and inspection-based approach to supervision. We know our banks well.

And day-to day supervision should remain in national hands as long as national taxpayers pay the bill for failures. In Europe, this has been understood. Larosière report: centralize some aspects of policy, but leave supervision in hands of national supervisors.

Supervision has to be backed by appropriate regulation. New concept of macro and micro-prudential supervision affects regulation

Need for more “macro-oriented” regulation and supervision.

Turning macro recommendations into actions

The “macro dimension” of regulation and the cycle

Different regulation for systemic institutions?

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Are “colleges of supervisors” supervisors? (1)

“Colleges of supervisors should be responsible for taking decisions and directing the supervision of cross-border banks”

We are creating rather high expectations here. Each national supervisor still has its legal responsibilities.Colleges are the way forward...

For ensuring a more coordinated and cooperative supervision of cross- border groups. And we still have a long way to go to develop them to their full potential.

…but they are not separate institutions of their own right. And they do not have decision-making powers. We have to be flexible.

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Are “colleges of supervisors” supervisors? (2)

“Colleges should have a lead supervisor with decision-making powers”

Already stated: colleges are not decision making bodies.

The consolidating supervisor as the leader. The many lives of the lead supervisor:

from full responsibility for supervising international groups… …to a flexible leading role in colleges

The impact of the crisis on the concept of strong lead supervisor.

And the impact of the crisis on the treatment of systemic branches as an illustration.

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Thank you for your attention.