1 Sylvie Matherat Director, Financial Stability Bank of France LSE and Deutsche Bank Conference on « Reforming the Global Architecture of Financial Regulation » 19/03/2009 Macro-prudential and regulatory reforms : what is needed to make the global financial system less crisis prone?

DIRECTION DE LA STABILITE FINANCIERE 2 Introduction These reforms are needed as there is no way out for the economy if the financial system is not back on track:  On a short term basis: an urgent need to fix financial situation of credit institutions  On a medium /long term basis: a new regulatory/prudential oversight for a new financial system;

DIRECTION DE LA STABILITE FINANCIERE 3 Outline The new framework is twofold 1/a need to revisit individual regulation and prudential oversight 2/a need to « invent » a macro prudential framework

DIRECTION DE LA STABILITE FINANCIERE 4 Individual regulation/prudential oversight This new micro prudential framework needs to look at: incentives risks institutions

DIRECTION DE LA STABILITE FINANCIERE 5 Improvement of incentives:  Accounting rules: reforms needed to prevent short termism (day one profit, fair value gains)  Prudential rules: Avoid regulatory arbitrage by increasing the capital coverage of trading activities Limit procyclicality: VAR through the cycle…  Corporate governance: better implication of board of directors, remuneration policy Individual regulation/prudential oversight

DIRECTION DE LA STABILITE FINANCIERE 6 Better risk coverage: Tail risk can happen Off balance sheet risks do not disappear (no clean break/reputation risk) Funding/liquidity/mismatch risks: they do exist and have a price Individual regulation/prudential oversight

DIRECTION DE LA STABILITE FINANCIERE 7 Increase regulatory oversight: Banks, non banks Hedge funds, private equity Rating agencies  Not only deposit-taking institutions but all intervention in the financial system need to be subject to some form of oversight: leads to the necessity of adopting a macro prudential approach. Individual regulation/prudential oversight

DIRECTION DE LA STABILITE FINANCIERE 8 A new macro prudential framework: Its rationale Its objectives Its actors Its tools A new macro prudential framework

DIRECTION DE LA STABILITE FINANCIERE 9 A new macro prudential framework, why? Good regulation and incentives at micro prudential level does always not make a good macro economic policy Harmonization of rules leads to mimetic behaviour A new macro prudential framework

DIRECTION DE LA STABILITE FINANCIERE 10 A new macro prudential framework General objectives: Limit risks of distress for the financial system as a whole Reduce procyclicality of financial regulation Prevent excessive risk taking/leverage in order to avoid disconnection between financial sector and the real economy Enhance crisis resolution

DIRECTION DE LA STABILITE FINANCIERE 11 The Actors: Need for an international financial architecture ensuring level playing field  International Financial Institutions: IMF and FSF  expected to collaborate for the regular conduct of Early Warning Exercises  Central banks  having a double role in financial stability: crisis management (liquidity provision, swap agreements) and macro prudential surveillance  Colleges of supervisors A new macro prudential framework

DIRECTION DE LA STABILITE FINANCIERE 12 The tools  Possible use of microprudential tools: Countercyclical capital buffers, Dynamic provisioning and valuation reserve, Leverage ratio including off-balance sheet items  Need to enhance institutional capabilities for systemic risk detection: So far, limited efficiency of early warning indicators, Need to improve information on cross-border banks’ exposures and systemic institutions Need to have a better grasp of interbank markets developments, and on price determination A new macro prudential framework

DIRECTION DE LA STABILITE FINANCIERE 13 Conclusion Impossibility of preventing financial crises But need to limit procyclicality of financial regulation and regulatory arbitrage Key role of central banks in financial stability and macroprudential surveillance Works in progress on effective tools for the monitoring of systemic risks