‘A single agency responsiblefor systemic risk would be accountable in a way that no regulator was in therun-up to the 2008 crisis. With access to all necessary information to monitorthe markets, this regulator would have a better chance of identifying andlimiting the impact of future speculative bubbles’. Former US Secretary of theTreasury Henry Paulson Discuss.Introduction Effective financial supervisioncomes not only from the constant commitment to attain the objectives offinancial regulation and from the clear and coordinated access to supervision,but also from the function of the internal governance arrangements. Three distinct institutionalmodels ensure that markets are fair, efficient and transparent, the protection ofthe investor and safeguards systemic stability. There are certain common characteristicsthat belong to all forms of regulatory systems.
Whatever the model a country goes for, it iscrucial that regulators are independent without being asked to pursue anypolitical directions. Also, regulators are required to be autonomous by havingthe possessions to perform without needing any government approval. Each andevery model is required to act ethically and to be accountable to judiciary,parliament and to the public.The 2008 financial crisis triggered the importanceof financial regulation and supervision, because a good supervision is essentialto minimise systemic risk. The following three institutional models and the conceptof the internal governance arrangements, help at ensuring stability in themarket and in achieving the fundamental objectives of financial regulation withthe ultimate aim of consumer confidence in the system. Sectoral Model The Three pillar sectoralmodel is an institutional model where supervisors are split into three, eachfocusing on banking supervision, securities and insurance supervision.
Thesethree separate entities focus on just one particular system and concentrate onit. Focusing on one sector ensures that markets are fair, efficient andefficient which is one of the objectives of financial regulation andsupervision. This fragmented supervision highly requirescooperation and coordination. Strivingto attain consolidated supervision has brought about the nomination of a leadfinancial supervisor to emphasize coordination between supervisors. However,although this model strives for cooperation and coordination, these are notalways achieved and failures occur. It is common that regulators facecomplications when it comes to communication. Failure in regulation andsupervision has helped to bring out the 2008 financial crises.
This is due regulatorswho do not share information between themselves; and therefore risks are notalways discovered. Furthermore another common detriment for this sectoral modelis a turf war which is the consequence of inadequate communication. Thisdispute occurs when there is more than one regulator fighting for their own jurisdictionand they step on the others. The other supervisor notices and startsquestioning. This results into tensions being entrenched and ultimately risksare not picked out. For example if HSBC is supervised by 3 separate regulators,you end up with having an insurance regulator examining a banking industry, allseeking for their own turf.
These tensions mentioned above, negatively resultsinto failure within the system. The Twin Peaks Model The Twin Peaks model is builtup onto two functional supervisions; Conduct Supervisor and PrudentialSupervision. The Conduct regulator is in charge on observing conformity withinvestor protection regulation and on market integrity. One of the objectivesof financial regulation and supervision; investor protection is overseen by aconduct supervisor in order to achieve the ultimate aim of consumer confidence.The supervisor needs to check whether the company is acting in the bestinterest of the investor. The Prudential regulator is responsible for macroprudential supervision for financial soundness in every sector.
This regulatorlooks after the supervision of the robustness of the capital of the company andthe robustness of company’s governance in order to achieve effectiveness. Thereare 2 kinds of supervisions being the Micro and Macro Prudential Supervision. Microsupervision is conducted by supervisors who focus on the individual financialinstitutions while Macro supervision is handled by the central bank which supervisesthe financial system as a whole. An advantage in this model isfocus as the two supervisors are focussing completely on their specific task.
Furthermorethis model is concerned to have high degree of efficiency and stability. This objectivebased model aims for certain objectives including investor protection,prudential supervision and market integrity. Although on one hand there isfocus, the twin peaks model can face incidents of tension between the conductand the prudential supervisors. For instance, if there is a listed bank and isgoing through liquidity difficulties, it goes to the central bank forassistance. Getting this help to improve liquidity is treated as pricesensitive information and in terms of law; the bank has an obligation todisclose price-sensitive information. A prudential regulator requires thissensitive information to be kept confidential.
If this information is made,there is a high chance of a bank run. Here people would withdraw money as theywould like their money back due to solvency matters. As prudential supervisorsare responsible for financial soundness, on the other hand conduct regulatorswould like to publicize information considering it is a listed company and thatinformation should be shared. This conflict between the two supervisors leadsto several tensions. The Single Supervisor Model The single supervisor model concernsonly one supervisor who is responsible for the whole system. This supervisor is in charge of maintainingregular surveillance on the compliance with the regulation of the whole system;in fact it highly requires accountability in order to prevent abuse.
Moreover thismodel serves as a good way for destroying turf wars, in contrary with the twinpeaks model. Bringing together all aspects of supervision into just one makethis model a vital one. In fact this model is the most common at European level.Generally this type of supervisor is connected with the political systemdenoted by less corruption and more efficiency in the government and the jurisdiction. A single supervisor gainshigh-level benefits such as a consolidated view, economies of scale and scope,consistent objectives, accountability and flexibility.
Although the other two modelsuse various regulators to monitor their unit, no one regulator has thejurisdiction over the whole conglomerate’s tasks. This brings the benefit of the sole regulator whois able to adequately fulfil the governing gaps, have a consolidated view andreduce risks. Furthermore, a single regulator is more competent to maintain betterscope of services; for instance discussing risk issues, than if separate regulatorscan maintain. This sole regulator is administered by one authorisation channeland contributes a constant framework as it is the only one that regulates thewhole system.
On the other hand a soleregulator can be ‘too large to be effective’. It is justified that the othertwo models are more able to get more focus on crucial matters. Moreover, thissingle supervisor can get distracted and panicked under critical matters withpressure as the sole supervisor need to work on its own and do all of the workitself. The lack of regulatory competition together with the above drawbacks canlimit the advancement of the entire system. In Malta, the MFSA plays the roleof the single financial services supervisor. Being the single regulator, theMalta Financial Services Authority oversees and coordinates the conduct of thewhole Maltese financial system. Conclusion The success of supervision doesnot automatically depend on the models, but also require remarkable standardsof internal governances.
Therefore sound internal governance arrangement for supervisionremains the crucial characteristic for a functional supervision.The financial crisis has impactedthe three models for supervision. Thetwin peaks model seemed to be preferred after the financial crises, as thesingle regulator model was no longer effective in Belgium and UK and this wasreplaced by the twin peaks model. In otherinstances, failures within the financial crises have not changed the engagementof the Twin Peaks in Netherlands as it is still in place since 2002.
In contrast,the Single Regulator is the most common model applied in the European Union. Ultimately all the modelshave their own highlights and challenges however the models themselves cannotguarantee the effectiveness of supervision as this require remarkable standardsof internal governances such as independent decision making and fairness that ensurethe stability in the financial system.