During the 1990s a number of financial crises threatened the very stability of the international economy. Analysis of the underlying causes of these crises indicates that weak regulation and supervision of one form or another have been a significant factor. An absence of genuine public sector accountability and transparency, aligned to political interference and weak supervision of the regulatory process has been a root cause of these problems.
This working paper published by the International Monetary Fund (IMF) attempts to unravel the causes of weak regulation and proposes mechanisms that may bolster the superstructure of the financial system. It uses input about regulatory and supervisory structures derived from the Financial Sector Assessment Programme (FSAP), conducted by the IMF and World Bank, which aims to assess financial strengths and weaknesses in IMF-World Bank member nations. Key questions include: What should be the main components of regulatory governance practice? How effective are present regulatory systems? What can be learned about the operation of governance processes during a crisis?
Good regulatory governance results from the application of four mutually reinforcing components: regulatory independence, accountability, transparency and integrity. Analysis of the banking, insurance, securities and payment systems supervision has produced several key findings:
- Central banks have made good progress in improving governance. This is instructive as central banks first initiated drives towards independence and good governance two decades before other financial agencies.
- Bank regulators are making progress in achieving viable levels of independence. This is partly due to beneficial links with central banks.
- Securities supervisors appear to have benefited from the need for transparency within the marketplace. Thus, scores for transparency in objectives, operational activities and integrity are better than for supervisors in other sectors.
- Insurance supervisors have a poor all round record. This sector has lacked adequate attention from policy makers.
- It is assumed that the establishment of good governance will help to negate some problems in times of crisis. At present this is an assumption yet to be backed up by empirical findings. It is clear however that, very often, the seeds of good governance practices are planted in crisis times.
A number of issues merit future consideration:
- The practices of the central banks can be used to promote the establishment of good governance within regulatory agencies.
- The trend towards mergers and acquisitions within the financial industries requires increased harmonisation of regulatory and supervisory approaches.
- FSAPs are a useful starting point for examining governance practices. More detailed evaluations are required that might explain the relationship between good regulatory governance and financial stability.
- The positive relationships between good regulatory governance and growth and development of financial systems merit exploration.
- Detailed cross-sectional analyses are needed to evaluate the linkages between good regulatory governance and corporate governance practices in the financial institutions.
- Good public sector governance is a pre-condition for good regulatory governance. Politicians need to be discouraged from interfering unduly with financial systems. The previous causes and effects of such interference merit close analytical examination.
