The last time serious political consideration was given to the architecture of international financial regulation was in the aftermath of the Asian financial crisis in the late 1990s. Following an initiative by Gordon Brown, who was then chairman of the International Monetary Fund (IMF) committee, and a report by Hans Tietmeyer, the Financial Stability Forum (FSF) was set up in 1998. The forum includes the finance ministries, central banks and leading regulators of all Group of Seven (G-7) countries, plus sectoral regulatory bodies such as the Basel committee and the International Organization of Securities Commissions, international financial institutions, the World Bank and IMF.
FSF thus includes most of the people who need to be involved when a financial crisis hits. Indeed, this time the G-7 finance ministers quickly turned to it for advice. They produced a good and comprehensive report in April—of course, more serious issues have emerged since then.
But, though FSF has proved its utility in its nine years of existence, in truth, as recent events demonstrate, this was only half the reform needed.
First, FSF is just that, a forum. It has no authority over any of the regulatory bodies, either national or international. It can suggest, cajole, even at times provoke, but it cannot instruct, and has no significant staff of its own or ability to hold others to account. The separate regulatory bodies jealously guard their independence, and have been reluctant to allow FSF to take the lead in coordinating its activities.
Second, FSF does not include all those who are needed in times of trouble. Indeed, G-7 is increasingly irrelevant when it comes to financial markets. Is it rational that Italy and Canada are at the table, but not China? FSF has added a few members, including Hong Kong, Singapore and the Netherlands, but the Bric (Brazil, Russia, India, China) countries are still excluded. This is in a sense a version of the UN Security Council problem. We are still working with institutions designed at a time when Europe and the US ruled the global economy unchallenged. Even worse, the Basel committee, which sets the rules for international banks, has 11 of its 14 members from Europe. Thus, global banking rules are directly influenced by Luxembourg, but not by China.
We need significant strengthening of the forum. Let us call it a financial stability council, at the very least, and give it some arms and legs in the form of a staffing complement which is up to the tasks it faces. Let us bring in the new financial powers whose impact on the global system is now immense. And establish a tighter linkage between its work and finance ministers, on the one hand, and the international financial institutions, on the other. In short, FSF needs strengthened legitimacy and accountability, plus strengthened authority.
We should not fool ourselves into thinking that architectural reform of this kind will solve all our problems. It will not. There is a need for change, too, in the detailed rules which govern banks and securities markets. The regulation of bank capital has been found wanting in this crisis, and much more attention needs to be paid to liquidity, relatively neglected by Basel so far. But it would be much easier to agree on those other reforms and ensure their even coverage globally if there were one unchallenged authority at the centre of the system, where decisions can be taken and their implementation effectively monitored.
Howard Davies is director, London School of Economics and Political Science. Comment at email@example.com
The future of the regulatory architecture was one of the issues discussed at the World Economic Forum’s “Summit on the Global Agenda” in Dubai earlier this month.