Agustín Carstens of BIS on Role of Proportionality in Tackling Risks

With the bulk of regulatory changes broadly complete, the focus shifts to implementation into national law, which must be consistent and timely. A forthcoming Financial Stability Institute (FSI) survey on the implementation of the Basel framework shows that many non-Basel Committee members in Latin America have implemented, or are in the process of implementing, relevant pieces of the Basel III framework. The most common elements implemented, or in the pipeline, are the definition of capital and the revised operational risk framework. Additionally, most of the surveyed jurisdictions in the region do not seem to be prioritizing the implementation of the liquidity standards, possibly owing to the complexity of the new standards and the consequent regulatory burden. Consequently, many jurisdictions have started implementing simplified prudential approaches for small and less complex financial institutions. However, in several jurisdictions that have implemented proportionality in prudential regulation, simplified approaches are typically more stringent than international standards. The adoption of a proportionate regulatory approach should avoid over-protecting inefficient institutions from competitive forces. These forces are likely to be relevant in a context in which technological innovations are likely to alter in a significant way the competitive position of different types of financial institutions, thus leading to a substantial modification of the structure of the banking industry.

Next, he discussed the challenges posed by technological developments. For example, while the new entrants will bring competition in the market for some non-core financial services, this may also trigger more concentration on traditional intermediation activities, as technology will normally increase economies of scale in the provision of those services. In addition, the increased participation of non-regulated (or lightly regulated) institutions in activities such as the provision of payment services, or the creation of opaque means of payment through distributed ledger technologies, may support some illegal activities. Also, a rapid and disorderly development of new investment products could weaken consumer protection. Furthermore, a generalized reliance of financial institutions on a small group of third-party providers of technological services generates business continuity risks that could become systemic. The intensive use of automated systems by financial institutions and other providers of financial services does exacerbate cyber-security risks and challenges the protection of customer data. Given these risks, effective regulatory action seems indispensable to promote the orderly assimilation of innovations.

Mr. Carstens added that effective regulation should be proportionate, holistic, and coordinated at the global level. He added that close cooperation between regulators and firms developing innovations may steepen the learning curve for public authorities and, thus, facilitate the required proportionality of the regulatory action. This is why the creation of regulatory sandboxes, sponsored in many cases by the regulators themselves, is a valid initiative. Technological development is a global phenomenon, as innovations are rapidly spread out internationally and providers of new services and products often act on a cross-border basis, taking advantage of the new virtual distribution channels. It is, therefore, essential to guarantee appropriate cooperation among relevant authorities worldwide and, once sufficient experience is accumulated, to start developing new global regulatory standards to address the relevant policy issues. The international cooperation arrangements already in place, that we call the Basel Process, are well-suited to facilitate the required interaction among regulators. Yet, given the multidisciplinary nature of the policy challenges, the existing structures may have to be adjusted to ensure sufficient involvement of all relevant players beyond financial regulators. 

Related Link: Speech

Keywords: International, Banking, Fintech, Regtech, Cyber Risk, Proportionality, BIS