Views on improving the integrity of global capital markets
16 June 2011

Systemic Risk Oversight — Up and Running in the U.K.

Posted In: Systemic Risk

This week marks the inaugural meeting of the U.K.’s interim Financial Policy Committee (FPC), a systemic risk oversight committee responsible for  upholding the safety and soundness of the financial system. The FPC is charged with steering the conduct of macroprudential policy — the use of microprudential tools, including bank capital requirements, lending restrictions, and others, to tame macroeconomic risks, such as asset price bubbles.

One of the weaknesses of the regulatory system in the U.K. exposed by the crisis was so-called regulatory ‘underlap’.  The FSA conducted prudential supervision of individual firms, whilst the Bank of England was tasked with conducting monetary policy.  Although it had a remit for financial stability, the Bank was not equipped with formal tools to address these risks; the result being that oversight of systemic risk — the build-up of system-wide risk and its interaction across firms and markets — fell through the cracks.

To remedy this deficiency, the U.K. government moved prudential supervision from the FSA to the Bank of England and gave the Bank additional powers — through the creation of the FPC — for systemic risk mitigation.  That is, the use of macroprudential tools to complement the microprudential focus of traditional banking supervision, now also housed under the Bank.

But while the U.K.’s initiative should be broadly welcomed, several issues remain.  Firstly, how will the role of the FPC fit with the remit of the European Systemic Risk Board (ESRB), the broader systemic risk monitoring body established by the European Union?  It is true that the ESRB is only an advisory body whereas the FPC is equipped with tools, but should there be disagreement or conflict between the ruminations of the two bodies, it is unclear how they would be resolved.  After all, the financial system is not geographically constrained, so the lines of demarcation are likely to blur.

Secondly, consensus over the macroprudential ‘toolkit’ is yet to be established at a global level.  Whereas interest rates are accepted as the preferred tool for conducting monetary policy, financial stability policy is likely to draw on a much broader set of instruments.  In other words, one club will no longer do the trick, but how many clubs, and which to select, is still open to debate.  We are entering unchartered territory.

But there is much less uncertainty over the U.K.’s approach, which should be applauded.  Firstly, the FPC will be a transparent body — it will publish its recommendations.  And secondly, it is independent — there is no political involvement on the committee.  And the very fact that it is up and running is a positive development in itself.  Systemic risk oversight bodies elsewhere would do well to take note.

About the Author(s)
Rhodri Preece, CFA

Rhodri Preece, CFA, is Senior Head of Industry Research for CFA Institute. He is responsible for building and maintaining the global research function at CFA Institute, including leading the planning, coordination, and creation of research content across CFA Institute research platforms, which include the Future of Finance, the CFA Institute Research Foundation, the Financial Analysts Journal, and the Enterprising Investor blog. Preece formerly served as head of capital markets policy EMEA at CFA Institute, where he was responsible for leading capital markets policy activities in the Europe, Middle East, and Africa region. Preece is a former member (2014-2018) of the Group of Economic Advisers of the European Securities and Markets Authority (ESMA) Committee on Economic and Markets Analysis. Prior to joining CFA Institute, Preece was a manager at PricewaterhouseCoopers LLP where he specialized in investment funds.

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