Post-crisis regulation - unfinished business and new opportunities
By Jiri Krol
Published: 31 May 2016
“The impact of regulation on our industry and the economy as a whole continues to be at the forefront of people’s thinking.” This was the closing thought at AIMA’s Global Policy and Regulatory Forum earlier this month.
The comments from policymakers at the AIMA GPRF indicated that there is now a second competing force in the evolution of the regulatory environment. The desire to ensure that the risks to the financial system have been properly addressed still dominates, but is now increasingly joined by the desire to ensure that subsequent regulation is not an impediment to growth or, going further in some instances, that new regulation can actually act as a stimulus for growth. Discussions on the dismantling of barriers to non-bank lending and nurturing of venture capital around the world are but a few examples of some of the initiatives.
If you look back to the period immediately after the financial crisis, there was one real priority for regulators: to fix things and to fix things quickly. We witnessed an unprecedented volume of rulemaking, which is still being implemented today and which will shape the industry for many years to come.
In the rush to plug both real and perceived gaps in the global regulatory architecture, regulators prioritised speed of delivery over a detailed assessment of the potential consequences of new rules. Cost benefit analysis became a secondary, if non-existent, concern. While that approach often resulted in poor policy and less effective outcomes, it did reflect the very real political and public sentiment that decisive action was needed to address what were viewed as the causes and contributors that led to the financial crisis. Moving quickly took precedence over moving more deliberately.
Now, close to seven years since the G20 summit in Pittsburgh that spurred a great deal of the subsequent legislative and regulatory action, we’re starting to see what worked and what worked less. For example, most of the policy makers and market participants felt that increased transparency and better risk management have clearly contributed to better markets and more responsible behaviour. On the other hand, market liquidity has been affected significantly with alternatives to dealer-based models of intermediation emerging only very slowly if at all. Regulatory reporting has become a nightmare of complex, expensive and ill-coordinated requirements which are in sore need of streamlining, simplification and harmonisation.
Another big piece of unfinished business from a global policy perspective revolves around the risks asset management and hedge fund activities may pose to financial stability. Leverage within the industry has been one of the key concerns and we’ve heard how the FSB and IOSCO are looking to explore better ways of measuring leverage in our sector. One of the biggest challenges is how to measure leverage arising from the use of derivatives. We’ve seen proposals from the SEC to limit registered funds’ derivatives exposures and we can expect more attention in this area.
The other big theme in financial stability work is liquidity risk management. Here the attention has shifted more to mutual funds and UCITS which offer more frequent redemptions than traditional hedge funds and have less flexibility to restrict redemptions in stressed conditions. There is now a greater recognition of the wide range of tools employed by hedge fund managers to manage liquidity risk. Most agreed that there appears to be no perceptible disconnect between most funds’ redemption and liquidation profiles.
Some policymakers are encouraging a move towards financial assets and liabilities being held by institutions and entities capable of bearing risk without the need for public support. Greater involvement of the asset management sector in the direct or indirect financing of the economy is therefore a welcome trend. We seem to be gradually moving away from the idea that, as the shift towards market based finance occurs, banking regulation should be transplanted into the asset management sector.
Still, there are a number of barriers which prevent non-bank finance and capital markets from developing, especially in the EU. The most immediate opportunity exists in the adjustment of the framework for securitisation. Asset managers are currently heavily constrained in participating on the supply side of the securitisation process and these constraints appear to be unjustified given the high level of regulation and oversight of this sector.
The alternative investment industry has successfully made a transition to a more intensive and more intrusive regulatory environment. With the size and the complexity of asset management operation, there are new challenges appearing, but these are bringing with them more opportunities – asset management is at the centre of growth for the financial sector and the broader economy.