‘A single agency responsible
for systemic risk would be accountable in a way that no regulator was in the
run-up to the 2008 crisis. With access to all necessary information to monitor
the markets, this regulator would have a better chance of identifying and
limiting the impact of future speculative bubbles’. Former US Secretary of the
Treasury Henry Paulson Discuss.
Effective financial supervision
comes not only from the constant commitment to attain the objectives of
financial regulation and from the clear and coordinated access to supervision,
but also from the function of the internal governance arrangements.
Three distinct institutional
models ensure that markets are fair, efficient and transparent, the protection of
the investor and safeguards systemic stability. There are certain common characteristics
that belong to all forms of regulatory systems. Whatever the model a country goes for, it is
crucial that regulators are independent without being asked to pursue any
political directions. Also, regulators are required to be autonomous by having
the possessions to perform without needing any government approval. Each and
every model is required to act ethically and to be accountable to judiciary,
parliament and to the public.
The 2008 financial crisis triggered the importance
of financial regulation and supervision, because a good supervision is essential
to minimise systemic risk. The following three institutional models and the concept
of the internal governance arrangements, help at ensuring stability in the
market and in achieving the fundamental objectives of financial regulation with
the ultimate aim of consumer confidence in the system.
The Three pillar sectoral
model is an institutional model where supervisors are split into three, each
focusing on banking supervision, securities and insurance supervision. These
three separate entities focus on just one particular system and concentrate on
it. Focusing on one sector ensures that markets are fair, efficient and
efficient which is one of the objectives of financial regulation and
This fragmented supervision highly requires
cooperation and coordination. Striving
to attain consolidated supervision has brought about the nomination of a lead
financial supervisor to emphasize coordination between supervisors. However,
although this model strives for cooperation and coordination, these are not
always achieved and failures occur. It is common that regulators face
complications when it comes to communication.
Failure in regulation and
supervision has helped to bring out the 2008 financial crises. This is due regulators
who do not share information between themselves; and therefore risks are not
always discovered. Furthermore another common detriment for this sectoral model
is a turf war which is the consequence of inadequate communication. This
dispute occurs when there is more than one regulator fighting for their own jurisdiction
and they step on the others. The other supervisor notices and starts
questioning. This results into tensions being entrenched and ultimately risks
are 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, all
seeking for their own turf. These tensions mentioned above, negatively results
into failure within the system.
The Twin Peaks Model
The Twin Peaks model is built
up onto two functional supervisions; Conduct Supervisor and Prudential
Supervision. The Conduct regulator is in charge on observing conformity with
investor protection regulation and on market integrity. One of the objectives
of financial regulation and supervision; investor protection is overseen by a
conduct supervisor in order to achieve the ultimate aim of consumer confidence.
The supervisor needs to check whether the company is acting in the best
interest of the investor. The Prudential regulator is responsible for macro
prudential supervision for financial soundness in every sector. This regulator
looks after the supervision of the robustness of the capital of the company and
the robustness of company’s governance in order to achieve effectiveness. There
are 2 kinds of supervisions being the Micro and Macro Prudential Supervision. Micro
supervision is conducted by supervisors who focus on the individual financial
institutions while Macro supervision is handled by the central bank which supervises
the financial system as a whole.
An advantage in this model is
focus as the two supervisors are focussing completely on their specific task. Furthermore
this model is concerned to have high degree of efficiency and stability. This objective
based model aims for certain objectives including investor protection,
prudential supervision and market integrity.
Although on one hand there is
focus, the twin peaks model can face incidents of tension between the conduct
and the prudential supervisors. For instance, if there is a listed bank and is
going through liquidity difficulties, it goes to the central bank for
assistance. Getting this help to improve liquidity is treated as price
sensitive information and in terms of law; the bank has an obligation to
disclose price-sensitive information. A prudential regulator requires this
sensitive 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 they
would like their money back due to solvency matters. As prudential supervisors
are responsible for financial soundness, on the other hand conduct regulators
would like to publicize information considering it is a listed company and that
information should be shared. This conflict between the two supervisors leads
to several tensions.
The Single Supervisor Model
The single supervisor model concerns
only one supervisor who is responsible for the whole system. This supervisor is in charge of maintaining
regular surveillance on the compliance with the regulation of the whole system;
in fact it highly requires accountability in order to prevent abuse. Moreover this
model serves as a good way for destroying turf wars, in contrary with the twin
peaks model. Bringing together all aspects of supervision into just one make
this 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 system
denoted by less corruption and more efficiency in the government and the jurisdiction.
A single supervisor gains
high-level benefits such as a consolidated view, economies of scale and scope,
consistent objectives, accountability and flexibility. Although the other two models
use various regulators to monitor their unit, no one regulator has the
jurisdiction over the whole conglomerate’s tasks. This brings the benefit of the sole regulator who
is able to adequately fulfil the governing gaps, have a consolidated view and
reduce risks. Furthermore, a single regulator is more competent to maintain better
scope of services; for instance discussing risk issues, than if separate regulators
can maintain. This sole regulator is administered by one authorisation channel
and contributes a constant framework as it is the only one that regulates the
On the other hand a sole
regulator can be ‘too large to be effective’. It is justified that the other
two models are more able to get more focus on crucial matters. Moreover, this
single supervisor can get distracted and panicked under critical matters with
pressure as the sole supervisor need to work on its own and do all of the work
itself. The lack of regulatory competition together with the above drawbacks can
limit the advancement of the entire system. In Malta, the MFSA plays the role
of the single financial services supervisor. Being the single regulator, the
Malta Financial Services Authority oversees and coordinates the conduct of the
whole Maltese financial system.
The success of supervision does
not automatically depend on the models, but also require remarkable standards
of internal governances. Therefore sound internal governance arrangement for supervision
remains the crucial characteristic for a functional supervision.
The financial crisis has impacted
the three models for supervision. The
twin peaks model seemed to be preferred after the financial crises, as the
single regulator model was no longer effective in Belgium and UK and this was
replaced by the twin peaks model. In other
instances, failures within the financial crises have not changed the engagement
of 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 models
have their own highlights and challenges however the models themselves cannot
guarantee the effectiveness of supervision as this require remarkable standards
of internal governances such as independent decision making and fairness that ensure
the stability in the financial system.