(The article featured
below is a selection from International
Securities and Financial Reporting Update, which is available to subscribers
of that publication.)
G20 Sets Forth Goal of Massive Global Reform of Financial Regulation under a
Single Set of Accounting Standards
The G20 has proposed a massive overhaul of the entire
system of financial regulation based on transparency, risk management, the
convergence of accounting standards and the global sharing of information among
regulators. The group also endorsed a college of regulators concept for global
financial institutions, which has found some favor in the EU. In a communiqué,
the G20 set out a number of immediate benchmarks to be accomplished in the first
quarter of 2009, and longer range goals with no set timetable. The proposals,
which are surprisingly granular, establish an ambitious reform blueprint for
regulators like the SEC and standard setters like the IASB and FASB.
Immediately, the FASB and IASB must enhance guidance
for the valuation of complex illiquid securities and mandate more disclosure for
off-balance sheet vehicles. Even more, regulators and standard setters must
enhance the disclosure investors receive about complex financial products. On
another front, the governance of the IASB must be enhanced to ensure
transparency and a relationship between the Board and securities regulators such
as the SEC. As a longer range goal, the G20 fully endorsed a single set of
global accounting standards of high quality.
Another immediate goal is the registration of credit
rating agencies under regimes that avoid conflicts of interest, provide greater
disclosure to investors and issuers and differentiate ratings for complex
products. The European Commission recently proposed the regulation of credit
rating agencies under a regime based on differentiation.
Also immediately, regulators should build on the
imminent launch of central counterparty services for credit default swaps, and
speed efforts to reduce the systemic risks of credit default swaps and OTC
derivatives transactions. In the U.S. the NY Fed is vetting such a system.
Market participants must be required to support exchange-traded or electronic
platforms for credit default swaps contracts. Overall, regulators must ensure
that the infrastructure for OTC derivatives can support growing volumes.
Risk management is a central principle of the reform
of financial regulation. Enhanced guidance must be developed immediately to
bolster the risk management practices of financial institutions. Banks and other
firms must examine their internal controls and implement sound risk management
practices. In particular, banks should have effective risk management and due
diligence over structured products and securitization.
For their part, regulators must require that firms
have risk management practices that can measure risk concentrations and large
counterparty risk positions across products and borders. The Basel Committee
should develop new stress testing models. Importantly, executive compensation
schemes must not reward excessive short-term returns or risk taking. Rather,
incentives should promote stability.
Finally, it is crucial that regulators cooperate on
regional and international levels. They must share information about
cross-border threats to market stability. Specifically, the G20 said that
colleges of regulators should be immediately established for all global
financial institutions as part of the oversight of cross-border firms. Major
global banks should meet regularly with their oversight college for a
comprehensive review of their risk management regimes.
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