De Larosiere Research Articles

The European System of Financial Supervision from an EEA Perspective – A Complex Compromise

The global financial crisis in 2007 and 2008 revealed many flaws in European financial markets – including the financial supervisory system. In accordance with the recommendations made in the de Larosiere Report, the Commission proposed to set up a European System of Financial Supervision (ESFS). On 24 November 2010, the new system was established. For Iceland and the other EFTA states that form the internal market along with EU Member States through the EEA Agreement, this new system posed some problems. The system did not quite fit into the so-called two-pillar structure of the EEA agreement, which did not envisage such transfer of powers to ‘supranational’ bodies in the same way as the EU Member States. It was, therefore, necessary to adapt the new system to the EEA two-pillar structure, which meant a more complex system for the EEA EFTA states. The aim of this article is to clarify how the new European System of Financial Supervision has been incorporated into the EEA agreement and to describe how the supervisory structure has developed throughout the years from an EEA EFTA state´s perspective.

Beyond Good Practices and Standards : An Islamic Framework of Sustainable Business Practices for Corporate Organisation

The aim of this paper is to explore why, how and when a business organisation may choose to go beyond good business practices and standards. In writing this article, the researcher sought to engage with modern secular insights about sustainable business practices for corporate organisations and to be in critical dialogue with those insights. The study addresses the questions of how can corporations develop into responsible moral agents and what effective framework can be used for sustainable business practices within an Islamic setting? It proposes to incorporate Islamic ethical principles such as ikhlāṣ (sincerity), ‘ilm (knowledge), ḥikmah (wisdom), hilm (forbearance) and rifq (gentleness), sabr (patience), tawaadu’ (humility), qudwah (good example), husnul-Istimaa’ (good listening), shajaa’ah (courage), karam (generosity) into corporate business practices. This study is an effort to bring religion into our economic lives, which invariably means bringing religious ethics into what is supposed to be free of such values “Corporate governance is one of the most important failures behind the present financial crisis.” de Larosiere Group (2009).

Governing the EU financial markets

The regime of financial market governance in the European Union evolved from generic comitology 15 years ago into one of the most specialized sectoral regimes today. The initial Lamfalussy reform focused on producing better hard law through open and transparent consultations and supporting its consistent implementation by delegating soft law powers to supervisory committees with independent expert capacity. Under the de Larosiere reform, committees were transformed into European Supervisory Authorities and their soft law guidelines ‘hardened’ into binding technical standards, which later formed the Single Rulebook pillar of the banking union. The successive reforms improved the procedural effectiveness of rule-making, but it is too early to evaluate their effects on implementation because of constant changes. Reforms also made the regime of governance more open and transparent and thus potentially more inclusive. However, the technical nature of financial regulations and the fact that many decisions are made on the global level conspire against improvements in the democratic legitimacy. The reforms thus shifted power toward expert industry insiders.

Commercial and Investment Banks United or Divided?

The concept of separation of commercial and investment banking has been the subject of debate since the great depression of the 1930’s. The US Congress saw the need to separate the two activities through the enactment of the Glass-Steagall Act of 1933. This argument resurfaced after the subprime crisis of 2007-2008 has resulted in the loss of approximately $1.1 trillion, with a dozen and a half large universal banks responsible for half of the losses (Wilmarth Jr, 2009). The global financial meltdown was subverted through the efforts of governments and central banks which subscribed $9 trillion for the support of institutions. The underpinning factor of this crisis was the amount of risk undertaken by too large to fail institutions with funds belonging to individuals (Blundell-Wignall, Atkinson and Roulet, 2014). The argument for the split-up of commercial and investment banking is not clear cut, however the most prominent argument suggest that the separation is necessary to ensure the separation of and protection of customer pledges from market risks (de Larosiere, 2012) ensuring that taxpayer funds are not used to avert risky investments.

MANAGING FINANCIAL REGULATION: THE REGULATOR'S TOOLKIT, THE ROLE OF PRIVATE ACTORS, AND INTERNATIONALIZATION

The failure to regulate international financial markets in an adequate way is widely understood to be one of the foremost causes of the global financial crisis (e.g. De Larosiere Committee 2009; Financial Services Authority 2009). As the President of the European Commission, Jose Manuel Barroso, stated, ‘The banking crisis exposed the gaps in financial services supervision in Europe. Our market was interdependent, but oversight was purely national’ (European Commission 2010). Regulatory institutions had even created incentives for irresponsible behaviour. For instance, banks were not required to retain on their books part of the securities they issued, over-the-counter (OTC) trading of derivatives was not centrally registered, and hedge funds and private equity firms were not obligated to comply with the capital standards of the Basel II framework. Yet there is also agreement that economic growth requires a regulatory framework that stimulates – rather than suffocates – competition, entrepreneurship, and innovation. Hence, banks worry about the possible negative effects of the regulatory response to the crisis. They fear that economic recovery will be hampered by increased regulation and stricter rules, such as the higher bars for funding and capital levels (Financial Times 2013). Banks also complain about the overlapping of rules and regulators at multiple levels of government, as this adds to complexity and generates uncertainty. For example, to limit

Je regulatorní aktivita Evropské unie v reakci na finanční krizi adekvátní směrem k odvětví pojišťovnictví?

ČlĂĄnek pojednĂĄvĂĄ o aktuĂĄlnĂ­m vĂ˝voji a změnĂĄch v regulačnĂ­m přístupu k oblasti finančnĂ­ch trhĹŻ. ZejmĂŠna se zaměřuje na zĂĄvěry procesu identifikace slabĂ˝ch strĂĄnek regulatornĂ­ho prostředĂ­, kterĂĄ v rĂĄmci EvropskĂŠ unie byla provedena tzv. ZprĂĄvou de Larosièrovo skupiny a komentuje provĂĄděnou implementaci v tĂŠto zprĂĄvě obsaĹženĂ˝ch doporučenĂ­. De Larosièrova zprĂĄva identifikovala zĂĄvaĹžnĂŠ nedostatky ve stĂĄvajĂ­cĂ­m systĂŠmu finančnĂ­ regulace v EU. Existuje jednotnĂ˝ trh s přeshraničnĂ­mi sluĹžbami, nicmĂŠně dohled zĹŻstĂĄvĂĄ nejednotnĂ˝ a často nekoordinovanĂ˝. VybudovĂĄnĂ­ silnějĹĄĂ­ finančnĂ­ho sektoru v EU v budoucnosti bude vyĹžadovat vyĹĄĹĄĂ­ konvergenci mezi členskĂ˝mi stĂĄty. Jednou z regulačnĂ­ch reakcĂ­ EU je zřízenĂ­, mimo jinĂ˝ch, EvropskĂŠho orgĂĄnu pro pojiĹĄĹĽovnictvĂ­ a zaměstnaneckĂŠ penzijnĂ­ pojiĹĄtěnĂ­ a EvropskĂŠ rady pro systĂŠmovĂĄ rizika, ovlivňujĂ­cĂ­ i odvětvĂ­ pojiĹĄĹĽovnictvĂ­. Tento člĂĄnek se pokouĹĄĂ­ identifikovat, zda probĂ­hajĂ­cĂ­ změny v ekonomickĂŠm systĂŠmu (globalizace či konsolidace) jsou dostatečnĂ˝mdĹŻvodempro zvýťenĂ­ regulace v odvětvĂ­ pojiĹĄĹĽovnictvĂ­, dĂĄle zohledňuje rizika (včetně systemickĂ˝ch), kterĂ˝m vĹŻbec mohou pojiĹĄĹĽovny čelit. ZĂĄvěrem jsou zmĂ­něny změny provĂĄděnĂŠ s ohledem k individuĂĄlnĂ­ regulaci pojiĹĄĹĽoven a očekĂĄvanĂ˝ vĂ˝voj v regulačnĂ­ch tendencĂ­ch.

Risk, Regulation and Supervision of Financial Systems: US and Eurozone Solutions

In the aftermath of the 2007-2008 financial crisis, a wide consensus developed on the idea that the global financial system requires a good, well-designed and integrated infrastructure, notably a sound and consistent regulatory and oversight framework. The well-functioning of the infrastructure depends, in turn, on sound and sustainable economic policies at national and international level. The aim of this paper is to provide a brief critical survey of the state of implementation of financial systems reforms on the two sides of the Atlantic, adopting the holistic approach of the de Larosiere Report. The implications for financial stability of the new Basel standard approach are examined and the shortcomings and dangers of underlying risk models critically assessed. The analytical framework presented, based on the distinction of exogenous vs. endogenous risk, is used to interpret the interaction of sovereign and banking stresses in the Eurozone. The two fallacies of composition behind fiscal and regulatory policies, which undermine recovery prospects in the area, are explored, and ways and means to break the destabilising loop are suggested.

The Financial Crisis in the European Union: An Impact Assessment and Response Critique

This article assesses the impact of the global economic crisis on the European Union and analyzes the recently enacted and future legislative response to repair the EU financial sector. It closely discusses and critiques the main initial response legislation, the European Economic Recovery Plan, finding that the central regulation contained short-term measures, yet managed to remain within the EU's long-term goals. The article also closely examines the significant risk regulation considerations highlighted by the economic crisis, notably those considerations contained in the De Larosiere Report and the Basel III Framework, and discusses the importance of implementing financial risk regulations to stabilize and revitalize the EU financial sector. Ultimately, the article concludes that the EU's recently enacted legislative measures are consistent with, but also must continue in tandem with, the longterm policies of the EU, while including new and crucial financial risk regulatory measures.

Single or twin? The UK financial regulatory landscape after the financial crisis of 2007–2009

The author aims to analyse the weaknesses of the Financial Services Authority (FSA) and the Bank of England during the financial crisis of 2007–2009. She aims to discover whether the coalition government's proposal to a twin-peaks model is a better alternative to the single regulator. The focus of this article is on micro-prudential regulatory failures in the United Kingdom. A comparison will be made with the twin-peaks regulatory model in Australia where there were no bank failures. The article is based on an analysis of recent papers and reports. Descriptive statistics are used to provide an insight into the financial ratios of the top banks in the United Kingdom and Australia. A comparative legal analysis between the United Kingdom and Australia is used to reflect the common law system used by both. The structure of the UK regulator was only a minor contributory factor to the financial crisis. The main regulatory and supervisory failures are due to organisational and management problems. There needs to be better information flow, coordination, cooperation, engagement with banks and stricter internal controls. The new UK regulator also needs to be prepared for the changes on the European dimension, following the de Larosiere report. This article will have policy implications for practitioners and policymakers on national, European and international dimensions. Changes in the European regulatory structure will see an emphasis on vertical regulatory cooperation. By first reviewing the weaknesses of the FSA in the light of Northern Rockand HBOS and then comparing the FSA with the Australian regulatory model, this article provides a new insight into financial regulation.

Financial Stability, New Macro Prudential Arrangements and Shadow Banking: Regulatory Arbitrage and Stringent Basel III Regulations

Despite Basel III’s efforts to address capital and liquidity requirements, will the risks linked to regulatory arbitrage increase as a result of Basel III’s more stringent capital and liquidity rules? As well as Basel III reforms which are geared towards greater facilitation of financial stability on a macro prudential basis, further efforts and initiatives aimed at mitigating systemic risks – hence fostering financial stability, have been promulgated through the establishment of the De Larosiere Group, the European Systemic Risk Board, and a working group comprising of “international standard setters and authorities responsible for the translation of G20 commitments into standards.” This paper aims to investigate the impact of Basel III on shadow banking and its facilitation of regulatory arbitrage as well as consider the response of various jurisdictions and standard setting bodies to aims and initiatives aimed at improving their macro prudential frameworks. Furthermore, it will also aim to illustrate why immense work is still required at European level – as regards efforts to address systemic risks on a macro prudential basis. This being the case even though significant efforts and steps have been taken to address the macro prudential framework. In so doing, the paper will also attempt to address how coordination within the macro prudential framework – as well as between micro and macro prudential supervision could be enhanced.

The European Union and the Financial Crisis: A State of Play (L'Union Européenne AU Chevet De La Crise Financière: Un État Des Lieux) (French)

The European Union was once portrayed as powerless in the face of the financial crisis. In fact, as apparent from this contribution, it has been at the forefront of the coordination of the rescue plans designed by the Member States and of the reform of the financial system. Those two aspects are dealt with successively, with no other ambition than to report on the current stage of the European Union’s involvement in the management of the crisis. The first part deals with the reliance on State aid rules as a tool of economic policy coordination. It shows how the enforcement of those rules has mirrored the development of the financial crisis and outlines the conditions imposed on the clearance of state guarantees and recapitalisation plans. The second part deals with the reforms of the regulatory framework applicable to the financial sector in the EU, in the aftermath of the de Larosiere report. In doing so, it presents succinctly new regulations and pending proposals designed to make up for the substantive weaknesses highlighted by the crisis, and sketches the contours of the restructuring of the EU financial supervisory system.

Understanding Financial Interconnectedness

This paper seeks to advance our understanding of global financial interconnectedness by (i) mapping aspects of the architecture of global finance and (ii) investigating critical fault lines related to interconnectedness along which systemic risks were built up and shocks transmitted in the crisis. It thus takes initial steps toward operationalizing enhanced financial sector and macro-financial surveillance called for by the IMF’s Executive Board and by experts such as de Larosiere et al. (2009). Getting a better handle on interconnectedness would strengthen the Fund‘s ability, together with the Financial Stability Board, to track systemic risk concentrations. It would also inform spillover and vulnerability analyses, and sharpen bilateral and multilateral surveillance.

The New Financial Stability Architecture in the EU

After the introduction of the euro in 1999, the debate on the financial stability architecture in the EU focused on the adequacy of a decentralised setting based on national responsibilities for preventing and managing crises. The Financial Services Action Plan in 1999 and the introduction of the Lamfalussy process for financial regulation and supervision in 2001 enhanced the decentralised arrangements by increasing significantly the level of legal harmonisation and supervisory cooperation. In addition, authorities adopted EU-wide MoUs to safeguard cross-border financial stability. In this context, the financial crisis has proved to be a major challenge to the ongoing process of European financial integration. In particular, momentous events such as the freezing of interbank markets, the loss of confidence in financial institutions, runs on banks and difficulties affecting cross-border financial groups, questioned the ability of the EU financial stability architecture to contain threats to the integrated single financial market. In particular, the crisis has demonstrated the importance of coupling to micro-prudential supervision a macro dimension aimed at a broad and effective monitoring and assessment of the potential risks covering all components of the financial system. In Europe, following the de Larosiere Report, the European Commission has put forward proposals for establishing a European System of Financial Supervision and a European Systemic Risk Board, the latter body to be set up under the auspices of the ECB. While the details for the implementation of these structures still need to be spelt out, they should reinforce significantly – ten years after the introduction of the euro – the financial stability architecture at the EU level.

Financial Crisis and Supervision of Cross-Border Groups in the EU

The financial crisis has dramatically demonstrated that the increasing role of cross-border financial intermediaries in the EU has not been supported by adequate pan European supervision. The aim of the paper is first of all to focus on the shortcomings of supervision in the EU especially with regard to cross-border financial intermediaries, highlighted by the impact of the financial crisis. Thereafter we intend to critically review the recent proposals for a new supervisory architecture in the EU. To this end we first analyse the main aspects of the crisis in terms of its impact on EU cross-border financial groups (Dexia, Fortis) and the actions taken by the national authorities to deal with the crisis. Thereafter we analyse the current supervisory framework and the shortcomings aggravated by the crisis. Finally, we critically evaluate the possible paths to reform, as also presented by recent reports, underlining their pros and cons. We focus on the role of the prudential supervision in relation to macro control of systemic risk, and of the College of Supervisors with regard to the supervision of cross-border groups, and on the new committees the creation of which has been proposed by the de Larosiere Report.

The future of regulation

PurposeThe purpose of this paper is to analyse the regulatory and other responses to the recent credit crisis with particular emphasis upon likely regulatory reform.Design/methodology/approachThe paper is based upon an analysis of recent papers, speeches and articles to draw together common themes for regulatory reform across the European Union (EU). It pays particular attention to two key papers, that from the Chairman of the UK Financial Services Authority (The Turner Report) and from the senior EU Group, the de Larosiere Report.FindingsIt is suggested that some nine or ten common themes emerge for regulatory reform from the many authoritative writings on the subject and that the timeframe for change is very likely to be much shorter that is the norm for international action. However, some areas of debate are noted, for example, how the role of national vs international regulators is to be resolved.Practical implicationsAll regulated financial services firms, whether banks or not, should expect a far higher level of regulatory intervention and with change occurring more quickly that would normally be expected.Originality/valueIn pulling together and analysing most of what has been written to date on the topic of regulatory reform the paper gives a unique overview of likely future developments. By identifying common themes it shows regulated firms the areas where more intervention is most likely to occur and highlights the timescale for that.

Regulating cross-border banks in Europe: a comment on the de Larosiere report and a modest proposal

Current banking regulation does not fully support the crucial role of cross-border banks in financial market integration, particularly with respect to retail banking, which is considered the less integrated financial sector. Cross-border banks contribute to the integration of this market segment by extending their services beyond national boundaries through branches and/or subsidiaries. Supervision, however, is fragmented at national level and regulation imposes additional regulatory costs on subsidiary structures, hindering the most efficient allocation of resources through the internal capital market of the banking group.The current regulatory framework is based on cooperation and information exchange between national supervisors. Memoranda of Understanding and colleges, however, have proved insufficient, especially in the case of crisis management of cross-border institutions. Obstacles to asset transferability between group entities do not allow for fully consolidated supervision, centralized compliance and risk management of cross-border banking groups.The de Larosie`re Report and the Turner Review partially address such problems, suggesting a reform of the current European supervisory architecture. Both proposals assign macro-prudential supervision and supervisory standard setting to newly established European Authorities, while micro-prudential supervision would remain with national authorities and colleges of supervisors. The de Larosiere Report also proposes the coordination of colleges by a European Authority responsible for micro-prudential supervision, which would enact binding mediation and, eventually, overruling.The new supervisory architecture would benefit from a more harmonized European regulatory framework for cross-border banks, which would ease the coordination activities of supervisory colleges and the setting of common standards by the European Authority. An EC regulation on banking groups would set conditions for the recognition of the parent company’s management powers over the whole group, including asset transferability. As a result, branch and subsidiary structures would converge and become relatively fungible. Such regulation would also define ex ante rules on deposit insurance and lender of last resort, providing for a clear allocation of responsibilities, thus avoiding regulatory arbitrage and reducing systemic risk.

Past and Future of Central Bank Cooperation: Policy Panel Discussion

On 27-29 June 2005, the BIS held its fourth Annual Conference on Past and Future of Central Bank Cooperation, as part of the Bank's 75th anniversary celebrations. The event brought together some 80 senior representatives of central banks, academic institutions and the private sector to exchange views on this topic. The conference was opened with addresses by Tommaso Padoa-Schioppa (former member of the Executive Board, ECB) and William White (Economic Adviser, BIS). It was closed with a Policy Panel discussion: Reflections on the future of central bank cooperation. The panel discussion was chaired by the BIS General Manager Malcolm D Knight. The panellists were Andrew D Crockett (JP Morgan Chase), Jacques de Larosiere (Paribas), Allan Meltzer (Carnegie Mellon University), Paul Volcker (International Accounting Standards Committee), and Yutaka Yamaguchi (former Deputy Governor, Bank of Japan). Their contributions are contained in this BIS Paper.

Transition and growth in post-communist countries: the ten-year experience

Part 1 Uneven reforms - unbalanced growth: the transition economies after ten years, Stanley Fischer and Ratna Sahay comment on Fischer and Sahay, Lajos Bokros ten years after - what is special about transition countries? Daniel Gros and Marc Suhrcke the chances of catching up with the West, Andrew M. Warner growth convergence - a comment on Warner, Stanislaw Gomulka remarks on globalization, openness, and macroeconomic stability in transition economies, David Lipton. Part 2 Financial openness and approaches to monetary integration: global integration of financial markets and its consequences for transition economies, Marek Dabrowski unilateral adoption of the euro by EU applicant countries - the macroeconomic aspects, Andrzej Bratkowski and Jacek Rostowski Central European economies in the aftermath of the Russian payments crisis, Lucjan T. Orlowski. Part 3 Reforming social safety nets: reforming welfare states in post-communist countries, Nicholas Barr welfare state reforms in post-communist countries - a comment on Barr, Stanislawa Golinowska comment on Barr, Stanislaw Wellisz restoring hope, rewarding work -pension reforms in post-communist economies, Michal Rutkowski do winners take all? - a comment on Rutkowski, Mikhail Dmitriev pension reforms in transition economies - remarks and open questions, Winfried Schmahl. Part 4 Reflections of political leaders: political panel - selected presentations - Jacques de Larosiere, Vaclav Klaus, Leszek Balcerowicz, Daniel Daianu, Gramoz Pashko.

Values in Conflict: Developing Countries as Social Laboratories

Like a father welcoming home his prodigal son, Jacques de Larosiere, managing director of the International Monetary Fund, a recent address at the annual meeting of the Fund singled out Mexico as a model of correct policy dealing with the international debt crisis. Praising the austerity program adopted by the newly elected government of President Miguel de la Madrid Hurtado December 1982, Larosiere said that the Mexican problem had been dealt with in a very efficient way, not by the creditors and the financiers, but more importantly, by the Mexican authorities and the Mexican people.' During the same meeting, Jesus Silva Herzog, Mexico's Secretary of and Public Credit, an erstwhile radical economist, was chosen by Euromoney magazine as Finance Minister of the Year, and feted with a champagne party for bankers and financiers Washington. Silva Herzog modestly remarked that Mexico's economic performance undoubtedly pleased foreign bankers more than it did Mexican housewives, but he promised that under the belt-tightening program things would get better by next year.2 Antonio Ortiz Mena, president of the Inter-American Development Bank, also congratulated Mexico on having selected the only way to cope with its $80 billion external debt and return to a path of sustained