News : At a time when Donald Trump’s political agenda seems to suggest that the commitments made in the wake of the crisis in terms of financial regulation may be called into question (see BSI Economics article » Deregulating finance today: low gains and high risks » ), it seems wise to recall the role of international financial institutions in market regulation.
In a speech on June 16, 2017, the Governor of the Banque de France, François Villeroy de Galhau, stated that « the banking and financial system is much stronger today than it was ten years ago, thanks to unprecedented international cooperation on financial reforms, led by the Financial Stability Board (FSB) and the coordination of the Basel Committee in the banking sector, and thanks to the remarkable efforts made by the industry to strengthen itself. The financial sector of 2017 is no longer that of 2007, and fortunately so. »
The financial crisis of 2007-2008 highlighted both the interconnectedness of capital markets around the world and the largely national scale of binding financial regulation (despite cooperation and the development of non-binding standards by a variety of international forums during the second half ofthe 20th century). However, the globalization of capital markets and the increasing frequency and magnitude of financial crises called for greater international and European coordination of financial system regulation. Since the G20 summit in London in April 2009, political impetus has been given to (i) strengthen coordination between national regulatory authorities; and (ii) broaden the missions and scope of intervention of international financial regulatory bodies, in response to the structural market failures highlighted by the crisis.
The institutional architecture of financial regulation is thus organized as follows (from political impetus to the enactment of binding financial regulations at the European level):
· The G20: sets the broad guidelines for the international economic and financial agenda.
For example, the G20 meeting in Pittsburgh in September 2009 decided to strengthen the international financial regulatory system through: the establishment of high-quality capital and the mitigation of procyclicality (in the banking sector); the reform of remuneration practices in the financial sector to support financial stability; reforming over-the-counter derivatives markets (see BSI Economics article, » What can we expect from derivatives regulation? « ); and developing contingency plans and specific regulations at the international level by systemically important financial institutions (see Pittsburgh G20 communiqué).
· The Financial Stability Board(FSB): issues recommendations with a view to financial stability, assesses markets and risks to financial stability, and monitors the effective implementation of international standards.
Created in 2009 and originating from the Financial Stability Forum (FSF, created in 1999), the FSB brings together 25 jurisdictions (represented by their finance ministries, central banks, and financial regulators), international institutions (OECD, IMF, World Bank) and international standard-setters that produce non-binding standards (Basel Committee, IAIS, IOSCO). The FSB’s mandate, which is more developed than that of its predecessor, the FSF, aims to assess risks to financial stability, coordinate the development of international standards, and encourage their convergence in implementation through regular assessments. The FSB is chaired by Mark Carney, Governor of the Bank of England, who succeeded Mario Draghi in 2011.
For example, the FSB has defined the framework applicable to » too-big-to-fail » financial institutions, reformed over-the-counter derivatives markets, and coordinated the identification of shadow banking entities and activities. Today, it is also working to develop a framework for ex-post assessment of the economic effects of post-crisis reforms.
FSB members also undertake to submit to regular assessments of their financial regulatory systems through the IMF’sFinancial Sector Assessment Program( FSAP ), created in 1999, which aims to measure the stability of the financial sector (review of the resilience of banking institutions, stress tests, quality of supervision of financial institutions) and to assess the development of the financial sector (barriers to competitiveness and growth of financial institutions, quality of market infrastructure).
· The Basel Committee: in the context of banking supervision, it has been driving the development of non-binding international standards in the banking sector since the 1970s.
Created in 1974 under the auspices of the Bank for International Settlements, the Basel Committee on Banking Supervision (BCBS) brings together some 30 jurisdictions. It is responsible for the Basel I (1988), Basel II (2004) and Basel III (2010). The Basel I agreement established bank capitalization ratios (including the Cooke ratio), and the Basel II agreement revised and expanded their scope. The Basel III agreement was the response to the financial crisis and aims to strengthen the level and quality of capital ( » tier one, » core tier one ) capital, create two liquidity ratios (one-month and one-year), introduce a leverage ratio, and strengthen the monitoring of market activities (see BSI Economics article » Financial (in)stability, macroprudential policy, and financial regulation: a vast undertaking » ). The Basel III reform, considered unbalanced by the industry and certain banking regulators (particularly in Europe), has been heavily criticized since the first measures were published in 2010 and continues to be so (particularly in the context of the implementation of a potential « Basel IV »).
· The International Organization of Securities Commissions (IOSCO): develops non-binding international standards in the field of financial markets.
The IOSCO was created in 1983 and brings together market authorities from nearly 200 jurisdictions. Its objective is to promote cooperation in financial regulation in order to ensure the proper functioning of markets, their transparency and integrity, and the protection of investors. Since the 2000s, IOSCO has strengthened its regulatory activities and developed standards that are now widely adopted by market authorities at the national level. It encourages convergence through peer reviews and promotes multilateral cooperation (notablythrough the Multilateral Memorandum of Understanding, which facilitates the exchange of information and cooperation in the supervision of markets and intermediaries).
· The European Commission: it acts at the European level, which is the most restrictive, and proposes directives and regulations on financial matters, and acts within the framework of the European financial supervisory system.
Within this framework, the European Securities and Markets Authority (ESMA), an independent authority created in 2011, brings together the market authorities of the European Union member states and aims to (i) develop technical standards for the European Commission in accordance with directives and regulations, (ii) ensure the convergent application of European financial law, and (iii) directly supervise credit rating agencies and central data repositories.
Conclusion
The institutional architecture of financial regulation is characterized by a descending structure in terms oflegalconstraints, from the broad guidelines issued annually by the G20 to the technical standards published by ESMA. The complexity of financial system regulation and supervision has necessitated several levels of regulation, with the aim of financial stability, encouraging international cooperation and convergence of standards at both the international and European levels.
The challenges facing the financial system today (Donald Trump’s agenda, Brexit, low interest rates, shadow banking, green finance, etc.) require enhanced cooperation. Mark Carney, Chairman of the FSB, highlighted this in his recent letter to G20 finance ministers: » A decade on from the start of the crisis, the G20 has made substantial progress in building a financial system that is more resilient and better able to fund households and businesses in a sustainable way. As the global recovery gains strength, now is not the time to risk these hard-won gains. »
[1] The Bank for International Settlements, created in 1930; the Basel Committee, created in 1974; the International Organization of Securities Commissions (IOSCO), created in 1983; and the International Association of Insurance Supervisors (IAIS), created in 1994.
