In his speech, Fernando Restoy, Chairman, Financial Stability Institute, Bank for International Settlements, on the institutional organisation of financial supervision. “I will focus on how supervisory models have changed since the financial crisis and, in particular, how the role of central banks has evolved in that regard. For that purpose I will draw on a recent publication by the Financial Stability Institute (Calvo et al (2018)) in which we analyse the changes observed in the organisation of financial sector supervision during the last decade across a broad sample of jurisdictions.”
The choice of supervisory model
Financial supervisory agencies have traditionally performed mainly two types of function: the oversight of the safety and soundness of different types of financial institution, such as banks, insurance companies and securities firms (the microprudential function): and the protection of investors, which typically includes the supervision of conduct of business rules of intermediaries and the preservation of securities market integrity. Following the crisis, that set has been expanded by two new functions: the monitoring and mitigation of risks and vulnerabilities of the financial system as a whole (the macroprudential function); and the resolution of vulnerable banks able to generate systemic stress. A supervisory model essentially consists of the allocation of these functions to different agencies, together with the definition of the institutional features of each agency (independence, governance, etc) and possible coordination mechanisms among them.
Supervisory models classified in three types
Existing supervisory models can be broadly classified into three different types: sectoral, integrated and partially integrated. In the sectoral model, agencies are responsible for the prudential and conduct of business oversight of all institutions of a specific sector: namely, banking, insurance and securities markets. Under the integrated model, at the other extreme, a single authority (located inside or outside the central bank) is responsible for both the prudential supervision and customer protection for all types of financial institution as well as for market integrity. The partially integrated models group responsibilities in different authorities according to different criteria. One example of the partially integrated model is the Twin Peaks model, now operating in countries like Australia, the United Kingdom or the Netherlands, where two authorities are responsible for the prudential and conduct of business oversight, respectively, of all institutions. Another example of a partially integrated model is the bi-sectoral model (or Two-Agency model as we call it in the FSI Insights paper) in which one authority is responsible for the prudential and conduct of business oversight of both banks and insurance companies and a second authority oversees securities business and markets. This model prevails, for example, in France and Italy.
Range of considerations
The choice of supervisory model is typically the product of a range of considerations. In particular, the experience accumulated from the Great Financial Crisis has played a role in highlighting the political economy implications of having different allocations of responsibilities within the financial supervisory architecture. Yet, models score differently in two relevant dimensions: i) their ability to exploit synergies across different functions by grouping them within a specific authority: and ii) their power to minimise conflicts across objectives by assigning them to different institutions. The latter is, in principle, as important as the former, since conflicting objectives within the same authority may lead to the subordination of one to the other in a way that may not be socially desirable. Examples of possible conflicts of objectives are those arising from the simultaneous oversight of banks’ solvency (as pursued by the microprudential function) and the protection of customers’ interests (as part of the conduct of business oversight function).
The role of the central bank
An important feature of the supervisory models is the role assigned to central banks. There is plenty of literature analysing the pros and cons of giving central banks powers in the prudential domain (eg Goodhart (2003) or Wymeersch et al (2012)). On the positive side, there exist clear synergies between monetary policy and banking supervision as banks’ balance sheets – which are directly affected by monetary policy decisions – are key components of the monetary transmission mechanism. Moreover, central banks’ role as – mostly the sole – emergency liquidity provider makes them a key actor in banks’ crisis management. That role can hardly be performed effectively if central banks do not have sufficiently comprehensive and timely information on the situation of individual banks, although, arguably, this may not require direct supervisory responsibilities if there is effective coordination between central banks and supervisors.
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The debate on central bank independence
The assignment of additional responsibilities to central banks has coincided with the re-emergence in the public arena of the debate on central bank independence, in which not only academics but also public officials have participated (Den Haan et al (2017), Mersch (2017), Issing (2018)). Interestingly, that debate has not been triggered by a possible underperformance of central banks in helping stabilise the economies, in accordance with their mandates, during or after the Great Financial Crisis. Quite the contrary, it seems to be generally accepted that central banks have effectively contributed to reducing the economic stress in most industrialised economies and facilitated the recovery by pursuing ultra-accommodative monetary policies over a sustained period of time. The debate seems to have been related rather to precisely the political and social implications of the instruments used by central banks in order to provide the economy with the desired degree of monetary accommodation. In particular, the argument has been made that by purchasing large amounts of public debt in secondary markets as part of their quantitative easing programmes, central banks were de facto performing a quasi-fiscal function. Moreover, it has been stressed that those policies have had significant distributional effects across different segments of the population (eg between investors and debtors and between investors in different types of assets). The above arguments do not seem to point to new undesirable effects of unconventional monetary policies but simply stress that the effects of accommodative monetary policies – both intended and unintended – have become especially pronounced in a context in which the degree of accommodation required to stabilise the economies was particularly elevated. Yet there appears to be currently a higher social sensitivity to possible unintended distributional effects of public policies which may have some influence on the public debate on central bank independence.
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To conclude, some adjustments to the current operational and governance procedures as well as some restraint in the specific functions assumed by central banks may help in striking the right balance between the benefits of the expansion of their mandates beyond price stability and the need to maintain their legitimacy as independent authorities.
Read the full version of the speech on the website of the BIS>
Source: https://www.bis.org/
