Jean Guill – Director General, Commission de Surveillance du Secteur Financier (CSSF)
SpeechI am tempted to ask: "What's new about innovation? " Innovation has always been with us. It is the positive side of the creative destruction which drives progress. Remember when credit cards were an innovation? ATMs? UCITS? and much more … Actually, we should be careful not to look outdated if we call innovation what is natural to the digital generation.
And yet, innovation never fails to raise concerns, worries, even fear, not only among the general public, but even among supervisors. Look at the regulations which created the European System of Financial Supervision, mainly the three ESAs. Financial innovation is explicitly mentioned in their remit. But you cannot escape the feeling that it is viewed with suspicion, to say the least. Indeed, innovation is dealt with in the article about consumer protection, together with warnings about unsafe products and their potential prohibition.
In the wake of the crisis, some innovations became useful scapegoats upon which the public at large, politicians - and supervisors - could vent their anger. Securitisation is a case in point. It was presented as the root of many evils. And now, as people realize that it was not securitisation as such, but its misuse, which had caused problems, it is doubly difficult to revive it as a useful and much touted component of the Capital Markets Union project. Similar considerations might be applied to derivatives, hedge funds, money market funds and so on, which are now being rehabilitated.
A fine example of a regulator afraid of innovation is the extraordinarily long and sometimes repetitive list of risks which EBA believes to have detected in relation to virtual currencies. Now, it may well be that up to a point, regulators have to take their script from Cassandra. But they should not stand in the way of progress by stifling innovation.
To fear innovation, to demonize new techniques, to ban products unless they are proven to be clearly toxic, is not the right approach. But it would be equally wrong to be naïve about innovation and to follow what the Economist recently termed "techno-evangelism" where technology becomes the solution to all ills.
It would be foolish for regulators to be taken in by apparent novelties and to follow trends and fashions. As some products are demonized, others are "angelicized" (if that word is permitted). Take crowd-funding or peer-to-peer-lending which may well provide alternative solutions, but which give you no guarantee either that you will not lose your shirt.
The challenge to supervisors consists first and foremost to understand new developments, to gauge their risks, to provide them with a clear and stable framework of rules, and to guide and shape them in such a way that financial stability in general and consumers in particular safely benefit from them.
In order to meet that challenge, supervisors must have the necessary resources. Since evolutions in the financial sector are to such an extent driven by technological advances, this means that regulators must recruit enough people with the capacity to master new technologies. If I only look at the area of payment services, which is undergoing profound change with new inventions mushrooming by the dozen, I can testify that regulators and technology people need to overcome the differences in their languages and to communicate with each other. Moreover, operational risks in the areas of IT and cybersecurity are growing exponentially and should keep supervisors on edge.
Digital technology allows supervisors to collect and to process vast amounts of data, at quite a cost to those who have to provide them. However we are still very far from ensuring the quality of those data and even more so from making good use of them. This is a huge and urgent challenge with which we have to grapple, lest the mass of information already collected turn into a graveyard of numbers.
Innovation drives competition. Some players will gain, others will lose. Regulators should not intentionally interfere in the normal functioning of markets. But they have to be aware that their actions will provoke reactions and may have unintended consequences. It is a truism in the meantime that the rules imposed upon banks since the crisis have made it more difficult for them to satisfy the demand for credit by the economy (insofar as that demand actually exists, which is another question). Rule-makers have thus been instrumental in the shift of credit supply from banks to non-banks - incidentally, just as rule-makers will be at the origin of the shifts which the proposed Bank Structural Reform will cause.
It is not for the supervisors to judge whether the shift from bank credit to market credit is a good or a bad development, to be encouraged or resisted. Their duty is to make sure that the provision of credit respects appropriate standards, which have to take into account the specificities of the creditor entity. And there, it is not justifiable to apply to non-bank credit providers the same rules as to banks which on the one hand are financed by fully reimbursable deposits and on the other hand give credit for their own account. However banks may well play a useful role by originating loans which they then pass on to non-banks, via securitization for example.
Let's hope that the Capital Markets Union proposal, as it gradually moves towards implementation, will take due account of the differences between the banking world and the financial markets universe. I am not exactly encouraged when the "Five Presidents Report" advocates a single European capital markets supervisor for the EU, as a copy-paste of the single banking supervisor for the euro area. Take note!
However I am heartened by increasing signs that international regulators, including the Financial Stability Board, are becoming aware of the dangers of overkill. In a recent speech Greg Medcraft, the Chairman of IOSCO, flagged the importance of being careful and cautious in driving regulatory work, underlining the need to recognize that capital markets are all about taking risks and that they need to be regulated in different ways to banks.
Indeed, rather than relying on uniform "one size fits all" solutions, regulators should meet each problem with a forward-looking risk-based approach, and they should always keep the principle of proportionality in mind.
Whereas regulators have produced over the last few years ever longer, ever more detailed, impenetrably complex and sometimes contradictory texts, they now need to take a step back and to concentrate on using all this regulatory output in order to achieve the main objective of prudential supervision which is to uphold a trustworthy financial system.
Trust in the financial system requires knowledge about its functioning; that's why regulators have a role to play in fostering financial education at all levels.
Trust in the financial system requires from all its actors transparency, integrity, and professionalism. That's why conduct supervision is at the basis of supervisory work. Ultimately, supervision is all about people and about the right appreciation of human nature.
I was supposed to kick off this morning's discussions about challenges arising from new trends and I look forward to interesting debates. But please remember that many of those trends, especially the "digital” ones, are at the surface only and that they do not affect the more fundamental, permanent challenges posed to regulators. At this juncture, where regulators have become ever more intrusive and interfering, their main challenge may well be not to overreach themselves, but to remain modest, because they will never get things one hundred per cent right and eventually they too will be held to account.
By J. de Larosière – President, EUROFI
By J. Guill - Director General, Commission de Surveillance du Secteur Financier (CSSF), Luxembourg
By G. Reinesch – Governor, Banque Centrale du Luxembourg