Regulatory reform after the financial crisis: Twin Peaks revisited

Abstract

Prior to the publication of my 1995 paper Twin Peaks: A Regulatory Structure for the New Century,1 the institutional structure of regulation received little attention in either academic or policy circles. To the extent that issues of institutional structure were noticed at all, they were viewed as at best a second order issue that made little practical difference to the quality or effectiveness of supervision. However, the publication of Twin Peaks gave rise to a vigorous debate in the UK around issues of regulatory structure that was soon replicated in other countries. In the latter half of the 1990s this policy debate began to be mirrored in practical developments and a strong trend towards institutional reform gathered pace in many advanced and developing economies. Australia, the United Kingdom, the Netherlands, Germany, Ireland, Korea, Japan and several other countries introduced or announced changes to their structures of regulation in the years that followed. Institutional developments in turn have encouraged a growing literature on the leading policy issues connected with these reforms. At the core of this literature has been the examination of several closely related questions: should the central bank be directly involved in banking supervision and regulation? Should it be responsible for the regulation of nonbank financial intermediaries? What are the pros and cons of creating a unified regulatory agency – responsible for banking, securities and insurance supervision – outside the central bank? Should prudential (safety and soundness) and consumer protection regulation be combined within the same agency or are they best carried out separately? The last issue has been one of the central points of contention between proponents of a Twin Peaks structure – in which prudential and consumer protection regulation are assigned to separate agencies – and theadherents of a single unified regulator. Until the crisis, it had appeared that this issue had been decisively settled in favour of the single regulator model. The UK’s Financial Services Authority (FSA) inspired a wave of countries to adopt a similar institutional structure and gathered many plaudits in the years before the financial crisis, including from such influential bodies as the International Monetary Fund.2 By contrast only relatively few countries – Australia and the Netherlands in particular – quixotically went down the Twin Peaks route.3