Unilateral regulatory initiatives undermine G20 financial stability goals

Wright: ‘it will only get worse’

Hasty unilateral moves by individual countries could undermine the ability of financial institutions and markets to benefit from new regulations and weaken efforts to improve financial stability, delegates at the BBA conference in London heard yesterday.

“Don’t expect there won’t be problems if you’re going to unilaterally introduce new rules without regard to what other nations are doing,” said David Wright, secretary general of the International Organization of Securities Commissions. “What we’ll end up with is a multilateral environment. There will be problems, and it will only get worse as more and more countries do the same thing. We’ll end up with a matrix of great complexity.”

Participants in a debate over the future regulatory challenge noted that while the G20 nations signed up to a reform agenda in Pittsburgh in 2009, under Basel III it actually remains up to individual nations to take the rules and implement them. The problem with this approach, however, is that there are differences emerging between different countries – for example, Japan is only applying Basel III to the larger global banks whereas Europe is applying the rules to a much broader range of banks, including smaller and medium-sized institutions.

“There are cross-border implications to all this,” said William Coen, secretary general of the Basel Committee on Banking Supervison. “Is it proportionate to apply the rules to all banks, like in Europe? The rule was originally created for the large banks. I don’t think it is necessarily proportionate to apply it to every institution, and I think doing so will have consequences.”

Other participants were more understanding of unilateral moves such as those taken by France, Italy and Germany to regulate high-frequency traders. Chris Allen, managing director and global head of regulatory strategy at Barclays, pointed out that individual regulators are not beholden to the G20 but to their national parliaments, which may not necessarily have the same priorities as the G20 group.

“Yes, there are issues around potentially importing risk and importing lower standards, and that is partly what drives this,” he said. “But we will never get complete unity. If that is our goal, then we will forever fail to reach it. But we need to keep trying and keep in touch to avoid regulatory arbitrage.”

The size of the task could continue to prove problematic, however, as Wright warned that the data currently available is of poor quality and is not even available in real time, hamstringing efforts to fully understand how markets are operating and what the effect of new regulations is in practice. In response to an audience question about cost-benefit analyses and whether there was a disconnect between regulation and the practical consideration of whether it would be worthwhile, Wright added that more work was needed on this area.

“Under EU rules the costs and benefits of all regulation have to be worked through,” he said. “I think its fair comment, not so much for Basel III but in other parts of the regulation, cost-benefit analyses have been less prominent. The Financial Stability Board is carrying out cost benefit analysis, but it is hard to calculate. Lets keep in mind what William Coen, secretary general at the Basel Committee said earlier, that these measures to make the system safer are what we really need to balance up. We need to do more work on looking at interconnectivity, based on data, but the data is poor today. A lot of deep intellectual thinking is needed to get to the heart of matter.”

Such thinking may involve bank restructuring. Allen reminded the speakers that Section 165 of the US Dodd Frank regulations contains requirements on structural reorganisation for financial institutions, and that the introduction of OTC derivatives trade reporting in Europe has already caused a reorganisation in European banks since it was introduced in 2013. But beyond the restructuring, some banks may even have to consider whether they want to continue to do business in some markets at all.

“Dodd Frank imposes restrictions on foreign bank activity. It is what it is. But it does impact the competitiveness of European banks when they do business in the US. The competitive landscape is a hugely complex matter,” he said.

The effects of global regulation also have an impact on the buy-side, especially in less liquid asset classes or in markets with a high level of fragmentation such as the bond market. In some cases, a lack of liquidity is a major cause for concern, according to Joanna Cound, head of government affairs and public policy Europe at BlackRock.

“We do see less liquidity in secondary bond markets,” she said. “A lot of trading activity doesn’t happen because of poor liquidity in the secondary markets. This is exacerbated by the fact that we have to split the trades into ever smaller pieces to get best execution. We have been adapting how we manage portfolios and trade and also risk management. That in itself is evidence we are seeing less liquidity. It might be more liquid securities, higher cash barriers, we started to make prices not just take prices in an attempt to uncover more liquidity. The AFMD standards we have applied as best we can. We don’t think this is solely an effect of regulation, it could also be quantitative easing, but we are definitely seeing less liquidity.”