No straitjacket, please!

“A more resilient industry can emerge from the ashes….”
….but bankers must ensure regulatory reform doesn’t create a straitjacket that inhibits economic growth, warns Ernst & Young’s JOHN LIVER at the Institute’s Chartered Banker dinner.

As an international consensus emerges on a programme of regulatory change following the financial crisis, many lessons need to be learned to minimise the risk of a recurrence.

Constructive and meaningful dialogue between the authorities and the financial services industry is vital to ensure the industry emerges more resilient, better managed and with a stronger focus on risk to remain a major employer and a significant contributor to economic growth.

The regulatory overhaul that’s envisaged entails enormous change both to deliver compliance with new requirements, and to respond to what will undoubtedly be very profound business implications. The reforms are being implemented at a time when the industry is being gradually weaned off governments’ support of perhaps $14 trillion globally on which it has been, and remains, dependent.

This year is a critical one for working through policy details – and the devil really is in the detail of many proposals. It’s important that the industry re-doubles its engagement with the authorities to ensure outcomes which achieve valid public policy objectives without too many unintended consequences – and without creating a straitjacket that prevents banks playing their role in delivering economic recovery.

The overhaul has three main objectives:

A more robust system
Institutions are being created or having their remits changed to strengthen the global regulatory architecture. National regulatory structures are also under scrutiny as greater alignment is sought between the financial regulation of individual firms and the wider macroprudential and financial stability roles typically played by central banks.

A number of changes are suggested to make the “plumbing” of the financial system more resilient to the failure of individual participants. The proposed Alternative Investment Fund Managers Directive is one example; another is the very significant changes proposed to the trading of OTC derivatives. Both will have profound implications for the pricing, risk management and operational support requirements of businesses.

More resilient institutions
A key focus of reform has been to strengthen the ability of individual institutions to withstand shocks. Capital and liquidity regulatory requirements are being significantly tightened. In future banks will need to demonstrate much stronger board governance and much better risk management.

Boards also need to be sensitive to the need for stronger consumer protection. It’s a key government demand of institutions that have received public support. Demonstrating fairness to customers will form an important part of the industry’s ability to rebuild trust with the wider population.

Improved ‘failure management’
Despite the strengthening of individual institutions, sometimes they will fail. When they do, the clear objectives are that:
• They require little or no taxpayer support
• They cause appropriate shareholder and creditor losses to instil better market disciplines
• They do not cause undue disruption to other institutions ormarkets.

Even in normal times, these reforms would represent a significant challenge for bank management. It’s an unprecedented volume of regulatory reform with several very major changes happening simultaneously over the next three years or so.

The shape of business will change: major investments in systems and people will be required; regulatory engagement will have to be re-doubled and sustained; very strong programme disciplines will be needed.

Those boards and executive teams who can keep above the tactical noise, devote time to looking across the full landscape and be clear about delivering on their customer propositions, will stand a greater chance of transforming their competitive position.

John Liver, is Regulatory and Risk Management Partner at Ernst & Young LLP

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