APRA and ASIC need cultural shift (Asia-Pacific Banking & Finance)

by Dr. Andy Schmulow

It is increasingly acknowledged that a cultural shift is need in the banking sector. According to an academic, this change can be facilitated by the ethos of the regulators charged with market and system stability.

New research by the Centre for International Finance and Regulation (CIFR) into the best regulatory model to protect financial stability and avoid a crisis indicates that Australia’s Twin Peaks model is optimal.

However, it’s no guarantee that a financial crisis, market misconduct or consumer abuse won’t occur as the recent instances of disappointing outcomes from the Australian Securities and Investments Commission (ASIC), attest.

Dr Andy Schmulow, senior research associate in the law schools of Melbourne and Witwatersrand, who co-authored the CIFR papers, points to the contrasting effectiveness of the Monetary Authority of Singapore.

When the ATM network of one of Singapore’s largest banks was out of action for 4.5 hours, due to an IBM glitch, the bank’s chief executive and chairman were forced to grovel in front of national media. The bank had to hold an extra $230 million of regulatory capital for 18 months as punishment.

Likewise, the Australian Competition and Consumer Commission is highly effective, which Schmulow attributes to the corporate culture established by founding chairman Professor Alan Fels.

“He struck fear into corporate Australia at every level and had no compunction taking on any organisation, no matter how big or powerful.”

For several months Schmulow was contracted to the Australian Prudential Regulation Authority (APRA) as a senior policy advisor. In Schmulow’s opinion, APRA was lucky that the GFC wasn’t delayed. Otherwise other banks would have followed National Australia Bank in getting involved in collateralised debt obligations. NAB took $1.01 billion provisions against its $1.2 billion exposure.

The Netherlands, which adopted the Twin Peaks model in 2002, again demonstrates the right model is insufficient protection against crisis. In the years leading up to the GFC, the Dutch banking system accumulated exposures to US investments double any other Western European country. Three of its largest banks, including ING and ABN AMRO, required government bailouts during the GFC.

One of the most difficult jobs of being a regulator is foreseeing the unforeseeable. This can best be achieved by eschewing “group think”, and by embracing a questioning and enquiring ethos.

Last year Schmulow made a submission to the government’s financial system inquiry recommending that a committee of experts evaluate the regulators’ performance, free of political or bureaucratic interference. As a result, Recommendation 27 is the creation of a Financial Regulator Assessment Board to annually advise government on how effectively the regulators fulfilled their mandates.

Schmulow’s research indicates that, in addition to having the twin peaks model, the regulators must be willing and capable.

“That comes down to the tenor of the leadership, the culture, the extent to which they can resist industry pressure, the extent to which they are willing to crack heads and break eggs and the extent to which they’re indemnified against liability so they’re not frightened to do their job.”

“Then the legislative, judicial and prosecution systems and processes have to be robust and aligned. Then you have a pretty good chance of avoiding the mishaps other countries have seen in the past”.

He noted there is a tendency for regulators to downplay consumer abuse and market misconduct as a threat to financial stability. Yet the US practice of giving loans to anyone with a pulse, at the bottom end of the property market, and on-selling those loans is “market misconduct and consumer abuse writ large” and was a catalyst for the GFC.

That’s why Schmulow recommends an independent panel whose sole purpose is to look at the regulators’ mandate and mission, and in light of what they know of the market, “come up with a conclusion as to whether there are issues that have been overlooked, or demand greater scrutiny.”