This blog was originally published November 26, 2013 in an alternate version by the Post Globalization Initiative.
Following the global financial industry default cascade of 2008-09, the Group of 20 (G-20) industrialized countries established the Financial Stability Board (FSB) in 2009, to coordinate policies among FSB members to prevent another global financial crisis. The most recent FSB Plenary took place on November 7–8 in Moscow.
Because the economic consequences of the financial collapse, following more than a decade of deregulation and non-regulation of the industry, have been so severe and widespread, the expectations of the FSB to reform the broken global financial system are high. Frustration with the slow and halting pace of reform extends even to the head of the New York Federal Reserve Bank, who commented in a November 7 speech that some of the world’s Too Big To Fail banks appear to lack respect for regulation and even the rule of law.
(The Institute for Agriculture and Trade Policy (IATP) is member of a consortium of NGOs and academics that recently released a report on international financial institution performance, which included a review of the FSB. IATP contributed a short evaluation of the realization of G-20 commitments to regulate over-the-counter derivatives, the financial instruments at the center of the 2008-09 debacle. The value of these financial instruments are derived from the price of an underlying asset, e.g., wheat, oil or an interest rate. I discussed the FSB report to the G-20 on OTC derivatives regulatory reform in one presentation to the Post-Globalization Initiative’s G-20 Counter Summit, September 5-6 in St. Petersburg.)
FSB members include G-20 financial regulatory agencies, international institutions, such as the Bank for International Settlements (BIS), international standards setting bodies, such as the International Organization of Securities Commissions (IOSCO) and financial regulators from five non G-20 industrialized countries. FSB also encompasses six regional consultative group of financial regulators from developing countries and the Commonwealth of Independent States, including Russia. Given the differences of financial industry structure and regulation between G-20 and developing country jurisdictions, according to a recent Harvard International Law Journal article, some analysts question whether the FSB is an appropriate forum in which to discuss non-G-20 country finance. In September, the FSB published a monitoring report on the effect of G-20 financial reforms on emergency markets and developing countries.
Russia, as this year’s G-20 president, hosted the FSB press conference that customarily follows plenaries. According to the FSB press release, the plenary heard reports from the six regional consultative groups. While but the substance of the reports was not revealed. However, press releases outlining discussions of past regional consultative group meetings, including two meetings of financial regulators from the Commonwealth of Independent States, are posted at FSB Watch.
FSB decisions are made by consensus and are not binding on members. However, FSB can decide to “name and shame” in reports written by the 28 member FSB secretariat, which is housed in the Bank for International Settlements in Basel, Switzerland. The FSB is legally independent both from the BIS and the G-20, so the secretariat has some degree of autonomy. FSB staff notes alert FSB members to potentially system destabilizing financial instruments, such as commodity index funds. FSB publishes peer reviews of financial reform in its member jurisdictions. The FSB staff does not refrain from saying that FSB members are not providing data and information for its reports, e.g., in its just-released report on the (at least) $71 trillion and largely unregulated "shadow banking" industry of hedge funds, payday loans and other non-bank, non-insurance company financial institutions. (Oddly, pension funds, globally amounting to trillions of dollars and sometimes invested in OTC derivatives, are not FSB classified as part of shadow banking.) Often what is not said speaks more loudly than what is said.
At the November 8 press conference, the FSB Secretary General outlined four topics of plenary work: enhancing banking resilience in the event of losses; preventing public bailouts of Too Big To Fail banks by agreeing on procedures for orderly bankruptcy if needed; preventing huge debt build-up in the shadow banking sector; and regulation of the $668 trillion global Over the Counter derivatives market. The remainder of this blog is dedicated to the OTC derivatives reform that G-20 leaders committed to conclude by end-2012.
Three major reforms were demanded in September 2009:
- OTC trades would be reported to trade data repositories, so they could be reviewed by regulators and have pricing and other information be available to the public;
- The credit and payment arrangements (clearing) for “standardized” OTC contracts would be administered on centralized platforms to prevent trader defaults from affecting the whole financial system; and
- OTC contracts that are so “customized” to corporate client needs (e.g., contracts to disguise debt as an asset) as to not qualify for clearing would require OTC dealer brokers to set aside higher capital reserves to cover possible losses and be purchased with higher down payments (margin).
There was not a lot the FSB Secretary General could add to the FSB’s September report to the G-20 about OTC derivatives reform without violating diplomatic decorum. Reform advocates have struggled to persuade banks to give up individual profit maximization in return for financial system transparency and stability that will benefit all financial institutions and their users, as demonstrated in a recent BIS study.
This struggle is writ large in the OTC report on “Substantial Progress”: e.g., “By the start of 2014, three-quarters of FSB member jurisdictions intend to have legislation and regulation adopted to require transactions to be reported to trade repositories.” The most potent word in this sentence is “intend.” More than four years after the G-20 leaders committed to making the vast and dark OTC market transparent to regulators and the public by putting trade data in repositories for regulatory review, regulators are still fighting with banks in order to realize that commitment. “Intend,” for the moment at least, is the most “substantial progress” the FSB secretariat can indicate for a majority of its member governments.
