Wednesday, November 10, 2010

The new architecture of financial market regulation

The European Union now has three new Supervisory Authorities with the responsibility of regulating financial markets (in distinct areas), and two new bodies responsible for managing the grand task of systemic risk.

The European Parliament voted on 22 September 2010 to establish the European Banking Authority, the European Securities and Markets Authority and the European Insurance and Occupational Pensions Authority. Each of these bodies is restricted to regulating the type of financial market activity for which it is specialised. They are then brought together into the European System of Financial Supervisors, which bridges the gaps between the sectors.

Finally, the European Systemic Risk Board is responsible for actively seeking out weak links in the system, like a pig looking for truffles. Stress testing is one of their principal responsibilities, which includes deciding where to look hardest for problems. In this body, the three Supervisory Authorities are brought together with the European Central Bank to assess risk and to issue warnings and recommendations.

Interestingly, the EU has chosen to adopt a set of colour-coded risk statements, much like the United States developed for terrorism threats after 2001. Are financial market participants the new terrorists of the 2010s? Perhaps in the eyes of some Members of European Parliament, who were behind this innovation.

Also of note is that these institutional developments mirror and depend on developments globally and in the United States. The Financial Stability Board is the global equivalent of the ESRB, whilst the Financial Stability Oversight Council is Europe's equivalent in the United States. This means that Europe has created the institutional capacity to coordinated with the rest of the world in not only responding to, but in defining our understanding of systemic risk and in global regulatory standards.

1 comment:

  1. The color-coded risk statements are strange indeed. It seems to me more of a system aimed at the general public than something that adds meaning to the case by case warnings and recommendations that the the color-code is supposed to accompany. At the same time, the additional voting round required to make warnings or recommendations public seems to indicate that public warnings should be sparse.

    If the terrorism color-code analogy holds, we may see that warnings and recommendations are kept private while the color-code is made public. A general reminder of systemic risk without any specifics, using fear for legitimacy.

    Or it could just be that the parliamentarians like visual markers in their reports.