It's significant that the IMF's view is that big finance can be good for countries provided the players are kept in line by good institutions and a robust regulatory framework. Unfortunately in many countries, the financiers seem to regularly be one step ahead of the regulators and often the big players and the regulators are the same people although usually not at the same time.
For example, a recent feature on Al Jazeera showed a former senior member of the Bush administration under fire from Congress, which accused him of making decisions when he was a member of the US government (in charge of matters financial) which favoured his former employer, a US investment bank. The Congressman asked the executive why he let the largest competitor of his former employer fail and then months later used public funds to bail out a customer of his former employer which owed his former employer billions of dollars. No one was convinced by his answers.
Another obvious sign of the unhealthy relationship between finance, the finance police, and government is the fact that despite huge white collar crimes being committed, no senior bank executive has gone to jail. Instead, huge fines have been levied which means the shareholders rather than management pay. The US is not unique — around the world, regulatory infrastructures are under constant attack from the finance sector that they are meant to regulate. That is the subject of today's article.
Some local optimists say the worst is over and now we have new rules to protect retail investors. Really? Just this week I read an investment statement that fundamentally misrepresented the investment proposition.
The reality is that while the worst offenders are now off-stage, the regulators' emphasis has been on small operators like finance companies. The prospect of things improving materially for the man or woman in the street isn't good because the mainstream providers haven't been targeted and thus haven't had to make much in the way of changes to their flawed business models. Fees are still ridiculously high relative to returns, disclosure levels woeful and commission and fees continue to drive product choice.
In fact, it is probably fair to say that the most significant impact of the legislation thus far has been to make the provision of financial advice to small investors uneconomic. This is exactly the opposite of one of the originally stated aims. High fives all round, not.
One of the most obvious signs of the capture of the NZ regulatory system by big business in recent times is the existence of QFE structures, which permit the banks to masquerade as providing independent advice, while chiefly limiting their recommended investments to products they originate, thereby maximising profits through a vertically integrated structure. In the electricity sector users successfully argued for the separation of the lines business and generators.
That same logic applies to retail advice and fund management. Wise minds in America came to that conclusion back in the 1930's with the Glass-Steagall Act but in the last twenty years the mega banks lobbied sympathetic politicians and Glass-Steagall got sidetracked.
Senior journalists in the London Financial Times and retired SEC personnel have publicly commented that the movement of staff between the regulatory police and the industry they are meant to regulate is a major threat to good regulations.
Just recently, the Head of the UK's version of the FMA got fired for being too effective. The odds are he will be one of the few ex-regulators who do not wind up working for those companies he regulated. One small step in the right direction has been made by the Swiss regulator of financial markets, FINMA, which has implemented new rules preventing senior staff from working for a company they were regulating within twelve months of leaving the regulator.
Some commentators, according to the Financial Times, reckon that FINMA has not gone far enough with a professor at George Washington University arguing that a three year period would be more appropriate. Don't hold your breath for any similar legislation locally.
Much of what limited criticism there is of the regulators is coming from academics but what is interesting is that the academics, frequently, have a legal background rather than financial.
In Australia, a vocal critic of the Australian Securities and Investments Commission is Andrew Schmulow of the Melbourne Law School. In a recent article, he took aim at ASIC and its "light touch approach" as regards regulating bad behaviour.
He noted that ASIC has "the power to search, to seize, to eavesdrop, to enter, to inspect, to compel disclosure" but seldom is this power being employed. His view is that Australia needs a Financial Regulator Assessment Board which would be tasked with providing an ongoing, independent review of ASIC. He writes that "nothing short of an ongoing independent review of the corporate cop will stop Australia's slide into systemic corruption" and suggests that the board should be comprised of individuals not connected to Treasury, the Reserve Bank or, obviously, the Regulator or the financial sector.
Whilst some people might see the establishment of a such a board as duplication which in some ways it is but he notes that in aircraft engineering duplication is called double redundancy. "In other words, when one system fails a second backup system picks up where the first, failed system left off".
Looking around the world at the Libor scandals, interest rate swap misselling etc noted above, it is pretty clear that the financial police need help.
Brent Sheather is an Authorised Financial Adviser. A disclosure statement is available upon request. Brent may have an interest in the companies discussed.
