Trip Structure of Financial Oversight - Assignment Example

Trip Structure of Financial Oversight Introduction In response to the global financial crisis, the present United Kingdom government under PM David Cameron seeks to change the Trip structure of financial oversight that was put in place under the recent PM Gordon Brown, by forgoing the Financial Services Authority and replacing it with an 11 member Financial Policy Committee and a separate Consumer Protection and Markets Authority. However plans have been delayed for this change. Influential UK lawmakers have yet urged the government to make no change without more careful planning due to the largesse of the financial services industry. This report will cover the changes that were made under PM Brown’s administration, including discussions of the Turner Report, The Treasury White Papers, the Walker Report and the Bank Act 2009. It will then discuss the Dodd-Frank Act passed by the United States Congress and conclude with an estimation of the efforts of both countries. UK Financial Regulatory Measures In the UK several reports were made that reviewed the global recession crisis with the purpose of offering corrective suggestions that would bear on the regulation the financial service industry. The important ones were the Turner Review, The Treasury White Paper on Reforming Financial Market, and the Walker Report that dealt with corporate governance. The first important report was produced by Lord Adair Turner. In May, 2008 Turner was appointed Chairman of the Financial Services Authority. By the Bank of England Act 1998, the Tripartite Authorities was created consisting of the Her Majesty's (HM) Treasury, the Bank of England, and the newly created Financial Services Authority (FSA). The FSA took over bank supervision services from the Bank of England. Turner is an insider of the both the UK and the US financial markets. In the United States he worked for Chase Manhattan Bank from 1979-92 and for Merrill Lynch Europe where he serviced as Vice-Chairman during the period of the recession, 2000-2006. In 1994, Turner became a director of the influential American consulting firm McKinsey & C. Turner presented a formal talk to the Bank of India in February, 2010. The event was the 14th C.D. Deshmukh Memorial Lecture. He made several observations that foretold ways in which the U.K. would be concerned with meeting the economic crisis. Financial transaction taxes could be used to control Short-term speculative inflows. Capital requirments against trading activities and leverage constraints on bank and non-bank trades were practical tools Macro-prudential tools could be used to warn off asset price bubbles and not interest rate levers. Turner's remarks were essentially in accord with the May, 2009 Turner Review. The review went against the efficient market theory that was often used to support a stance of self-correcting markets. It stated, "Market efficiency does not imply market rationality", making a note of "self-reinforcing herd effects and of prices overshooting rational equilibrium levels" (Turner, p. 40). Suggestions made by the report included raising the amount of capital in the global banking system; requiring capital against book trading activities; enforcing the role of regulators to avoid and check unnecessary procyclicality; introducing a maximum gross leverage ratio; intense supervision of bank liquidity positions and use of a core funding ratio to be reflected on balance sheets. Regulation should be based on economic substance as opposed to legal form and unregulated financial institutions should fall under the authorities of regulates. Regulation standards under global agreements should apply to offshore financial centers. Retail depositors should be generously covered by deposit insurance. Credit rating agencies were addressed to avoid conflicts of interest under dictates of good governance and structured finance ratings should stand review within the Basell II framework. Credit Default Swaps should fall under "clearing and central counterparty systems". Macro-prudential analysis should be used by the Bank of England and the FSA and such capital resources built into the IMF to recognize and offset systemic risk. The Turner Report suggested a Supervisory Enhancement Program (SEP) that could obtain and analyze necessary information in the way of macro-prudential analysis. Instead of 'narrow banking' requirements, commercial banks should be subjected to new capital and liquidity requirements. Measures were suggested, such colleges of supervisors, to overview and coordinate banking on the international level, with the FSA so empowered to required local liquidity and apply limits to activity. As specifically related to international banking, the Report sough a new and independent European regulatory body. European deposit insurance should require-prefunded resources. Significantly, the Turner Report left open the question restricting wholesale market products, their design and use. In July 2009, The Treasury released a White Paper in response to the Turner Report. The Treasury report, called Reforming Financial Markets, took a wider view toward correcting the causes of the recession. It proposed replacing the Tripartite Standing Committee with a new Council for Financial Stability (CFS) that would have the Chancellor of the Exchequer govern meetings over the same three bodies comprising the Tripartite. The proposal empowered the FAS with statutory financial stability objective, enlarged with consideration of European and international developments. Statutory authority for the FSA would also extend in the direction of consumer protection which would include taxpayer interest. The Walker Review of Corporate Governance affirm the measures of the Financial Reporting Council Combined Code on Corporate Governance and made 39 recommendations, man dealing with training, risk focus, communication, evaluation, and commitment. It confirmed the FSA Remuneration Code requirments setting five years payment deferral. The Walker report sought higher board level board members engaged in monitoring the risk process. Long-term performance should become the emphasis of fund managers instead of short-term profit. The Walker Review in general confirmed the need for strong participatory effective corporate governance from the board through the managers and the employees. The Banking Act of 2009 consolidated the Financial Services Compensation Scheme (FSCS) and appointed a Special Resolution Regime (SRR) that gave share transfer powers to allow the Treasury to transfer assets and liabilities of failing banks to other institutions. These transfer powers of the Treasury were to be used in case a bank posed a serious liability to U.K. financial systems. Another part of the Act presented the Financial Services Compensation Scheme in effect insured depositors funds. In late 2010, the insurance was raised from £50k to £85,000, reaching accord with the €100,000 European standard. Reform to FSA received Royal Assent with passage in April 2010 of the Financial Services Act 2010. The FSA was granted explicit financial stability power and empowered to require information. It could also prohibit short selling. The Act created a new body for consumer financial education, taking up such duties from the FSA. The FSA obtained enforcement powers to fine individuals and firms assuming FSA approval for activities when such approval had not been granted. The FSA can now void remuneration rules and, as well the FSA was empowered to impose schemes to redress consumers. United States Financial Regulatory Measures In the United States the Dodd-Frank Wall Street Reform and Consumer Protection Act (the Dodd-Frank Act) became law July 21 2010. The Dodd-Frank Act was created in response to the global financial crisis. It was provided general direction by President Obama who wanted the Act to do several things that were corrective measures of the crisis. Obama sought measures that would oversee and evaluate systemic risk; enforce regulations and transparency over derivatives; provide ordering dissolution of firms that went bankrupt; overseeing credit rating agencies; and allowing the Treasury authorization to extend credits, when deemed appropriate, to troubled institutions. The Dodd-Frank Act represented the most significant changes to the financial services industry since the measures passed during the Great Depression. The Act essentially provided frameworks through which rules and regulations would have to be made in the immediate period following its passage. Implementation of the Act will require regulators to create 243 rules fitting within the Acts sixteen sections or Titles. The rules were to be developed over the next 18 months of the Act's passage. Besides dealing with the financial services industry the Act also created a Bureau of Consumer Financial Protection which will bring together employees and duties from other regulatory agencies into one overall coordinating body. This body will operate under the budgeting auspices of the US central bank, the Federal Reserve. But its work will remain independent of the reserve. This is similar to the consumer protection consolidating and concentrating responsibilities that were once held by the FSA. The Consumer Financial Protection agency would have authority to investigate and issue subpoenas. Lobbyists were able to exempt large banks, real estate brokers, and auto dealers from the rule. Clearly the passage of the Dodd-Frank Act and certainly the Consumer Financial Protection demonstrated that there were those interests who sought to eschew any lessons learn from the recession and to continue as before. Title 1 of the Act created a Financial Stability Oversight Council along with an Office of Financial Research, both under auspices of the Treasury Department. Meeting at least three times a year, the Council is empowered to oversee any causes of systemic risk and to respond any emerging threats. Specifically bailouts were no longer allowed. The council has the power to collect information through the Office of Financial Research and must periodically report to Congress on its findings of the US economy. The Chairman of the Council is the Secretary of the Treasury and among its 15 members are 10 voting members. These members are actually heads of the other finance agencies. Orderly Liquidation Authority is specified under Title II, allowing troubled companies to be placed into receivership if they appear to threaten the financial stability of the US. The FDIC is to maintain a Deposit Insurance Fund that is funded by assessment fees on bank holding companies that have over $50 billion in consolidate assets. Capitalization of this FDIC fund is to occur over a period of five to ten years. The Glass-Seagall Act of 1933 had been passed under President Franklin Roosevelt to protect depositors assets by not allowing banks to directly enter investment market trade. But In 1999, under President George Clinton, Congress passed the Gramm-Leach-Bliley Act which overturned the Glass-Steagall Act of 1933 and allowed mergers of banks with investment houses (McClendon, 2010). The Dodd-Frank Act importantly reactivated the thrush of the Glass-Seaguall Act by passing the Paul A. Volcker Rule, named after the former Federal reserve Chairman. The rule disallows banks to trade on markets in their own interest. The Act had faced a contentious opposition in the conservative Republican party and some of its meaningful regulatory rules were stripped from the final bill. The bill would have concentrated more independent power to the Federal Reserve by bringing it under another federal agency, the Federal Deposit Insurance Commission. This measure failed to pass. The Dodd-Frank Act has sections dealing with Wall Street Transparency and accountability (Title VII). This title, among other rules, removes security-based swaps from the exemption that had been allowed by the Gramm-Leach-Bliley Act. Two agencies, the Commodity Futures Trading Commission (CFTC) and the Securities and Exchange Commission (SEC) must coordinate watch over the instruments. The Act suggests a clearinghouse for the transparent trade of derivatives. Transparent relationships are protected under broker and client under Title IX, Investor Protections and Improvements to the Regulation of Securities. This rule guarantees point-of-sale disclosure statements between broker and client. Section C of this title moves into the governance of credit rating agencies by mandating an Office of Credit Ratings, under the SEC, to oversight these important bodies. The Mortgage Reform and Anti-Predatory Lending Act is Title XIV and aims to correct deficiencies that led to consumers being overtaken by predatory lenders. The rules over this Title are to define compensation limits for mortgage originators as well as their status, as apart from licensed real estate broker/associate. It defines a good faith effort, transparent second mortgages and transparent reverse mortgages. The Dodd-Frank Act also inaugurated provisions on governance and key executive compensation. A rule would have a non-binding shareholder vote on executive compensation and golden parachutes. There should be clear disclosures in the annual reports on executive compensation showing linkage between pay and performance. Compensation Recovery, clawbacks, require policy to be adapted relating incentive awards to executive officers based on future restated financial information. Conclusion The new proposals under PM Cameron seek a restructuring of the financial regulation in the UK, giving the responsibility of the prudential regulation of banks to the Bank of England while also suggesting a Consumer Protection and Markets Authority. The Consumer Financial Education Board had been created in 2010 with the responsibility to raise consumer financial ability. The Independent Banking Commission is to issue reports. The UK banking industry is more heavily concentrated than the US and one can say both operate under a different mindset (Mullineaux, 2010). There is no better example of this when Lehman Brothers sought a buyout by Barclays Bank in September 2008. At the last minute US Treasury Secretary Hank Paulson sought direct intervention by Alistair Darling, Chancellor of the Exchequer. Chancellor finally explained to the American officials that capital requirements were not forthcoming on the Lehman project. It was evident to all that the rapid depreciation of Lehman’s public stock was due to a huge share of toxic assets which Lehman had obscured. Darling informed the American officials that Barclays could not guarantee Lehman’s trade without a shareholder’s vote, which at that time was impossible. The United States appears to have an extensive plan that could operate in all sectors of the financial services industry. The present UK government appears to be making efforts to do similar. Yet there is much confusion in this regard because of the recent changes. Bibliography Jones, H. and Fincher, C., 2010. Uk fleshes out regulation reform and warns EU. UK.Reuter.com, Jul 26, Accessed at http://uk.reuters.com/article/2010/07/26/uk-britain-financial-hoban-idUKTRE66P1N320100726?pageNumber=2 Miller, M, et al., 2010. Restoring prudent banking in Britain: evidence and policy. Department of Economics, University of Warwick. Accessed at http://www.ashmus.ox.ac.uk/winton/PastSeminars/Michaelmas2010/FinancialCrisesSeminars/Miller29Nov_paper.pdf Mullineaux, A., 2010. The governance of 'too big to fail' banks. University of Birmingham: International Finance Group. Accessed at Electronic copy available at: http://ssrn.com/abstract=1680252 Wright, W., 2010. Time for a financial regulation timout? Financial News, 14 Nov. Accessed at http://www.efinancialnews.com/story/2010-11-15/editorial-time-for-a-financial-regulation-timeout Read More