Since the international financial crisis of 2008, the G20 has devoted extensive attention to the improvement of international financial regulatory standards. Having agreed on a wide range of new standards, the G20 is now facing growing questions about whether these will actually be implemented at the national level in a consistent manner. In addition to recommitting themselves to adopt these standards, the G20 leaders should use the 2012 Mexican summit to strengthen the capacity of the Financial Stability Board (FSB) to address this issue.
Compliance challenges are not new in this sector of the world economy. In contrast to international trade law, international financial standards have long taken the form of non-binding “soft law” with implementation left to the discretion of national authorities. Not surprisingly, implementation of international regulatory standards has often been uneven in the past.
In the post-crisis period, compliance problems have intensified as the scope of international regulatory standards has expanded dramatically to cover a much wider range of issues and sectors. The heightened domestic politicization of regulatory issues in the wake of the crisis has also made it more difficult for regulators to know whether commitments made in international meetings — either by themselves or foreign regulators — will be respected at the domestic level.
In addition, the diffusion of international financial power to emerging market economies is undermining the ability of dominant financial powers to set global norms, and is encouraging new competitive deregulation dynamics. Private financial interests are also becoming increasingly bold in resisting G20 regulatory goals in areas such as tightening regulations on over-the-counter (OTC) derivatives or the global systemically important financial institutions (G-SIFIs).
When the G20 leaders created the FSB in April 2009, they included in its charter some new mechanisms for encouraging compliance with international financial standards. Membership in the body comes with a requirement to implement such standards and to participate in a new FSB-led peer review process assessing compliance. Members have also agreed to undergo surveillance assessments under the International Monetary Fund and World Bank’s Financial Sector Assessment Program every five years.
These provisions are useful, but they also have some weaknesses. The FSB’s capacity to support extensive peer reviews has been constrained by the very limited size of its staff, who all have had to be seconded temporarily from other organizations like the Bank for International Settlements, because the FSB lacks a formal legal standing. More generally, the consequences of failing to comply with FSB requirements were not specified in the FSB’s charter. Because the creation of the FSB was not a product of a formal international treaty and it has not been approved by any legislature, its charter imposes no “hard law” obligations on its member countries.
As the challenges of implementing G20 commitments have grown, the significance of these weaknesses in the FSB has become increasingly apparent. The G20 leaders responded at the Cannes summit in November 2011 with several initiatives. One was to change the composition of the FSB’s influential Steering Committee, in order to give more weight to finance ministry officials who have a critical role to play in steering national legislative initiatives as well as to jurisdictions that have been less well represented in the past.
The G20 leaders also committed to exploring how to provide the FSB “with legal personality and greater financial autonomy.” If the FSB is registered as a corporate entity in a country’s domestic law, it will finally be able to hire permanent staff. Greater financial autonomy will also strengthen its capacity to hire staff and maintain the kind of high technical standards and independence that are necessary to support successful peer reviews.
Finally, the G20 leaders announced the creation of new “Coordination Framework” for monitoring and public reporting of the implementation of international financial standards, with a special emphasis placed on the issues that have been highest priority since the crisis: Basel capital and liquidity frameworks for banks; OTC derivatives reforms; compensation practices; policies towards G-SIFIs; resolution frameworks; and shadow banking. At this time, the FSB Secretariat also produced a new “status report” on the progress of implementation involving four grades (or “traffic lights”).
Each of these initiatives is useful and should be reinforced at the Mexican summit. What is still missing, however, is a clearer statement of the implications of non-compliance with international standards for FSB members. Improved monitoring, public reporting and peer reviews of levels of implementation are all well and good, but they need to be backed up with concrete consequences for those members found to not be meeting the FSB requirements.
Given the nature of the FSB and the standards themselves, it seems very unlikely that WTO-style sanctions against non-complying jurisdictions would be applied against FSB members that are non-complying. But other measures should be considered by the G20 leaders at the Mexican summit, such as the removal of certain privileges within the FSB itself. For example, in an earlier CIGI publication, Tony Porter suggested that membership on the Steering Committee, peer review teams, Standing Committees or working groups of the FSB could be conditional on levels of compliance with international standards.[i] As a start, the G20 leaders could commit this kind of principle vis-à-vis compliance with a high-profile initiative, such as the implementation of the Basel III standards that begins in 2013.
Growing concerns about implementation problems are undermining confidence in the G20’s accomplishments in the area of international financial regulatory reform. Just before the Cannes summit, the outgoing FSB Chair Mario Draghi even acknowledged: “we have a long way to go to fully and consistently implement the reforms we have committed to and the policy measures already agreed.”[ii] The G20 leaders have an opportunity in Mexico to rebuild confidence in the international regulatory reform process by strengthening the capacity of the FSB and its ability to encourage governments to implement the international standards they have alre
[i] See Tony Porter (2010). “Making the FSB Peer Review Effective.”Iin The Financial Stability Board: An Effective Fourth Pillar of Global Economic Governance?, edited by Stephany Griffith-Jones, Eric Helleiner and Ngaire Woods. Waterloo: CIGI, p.40.
[ii] See Mario Draghi (2011). “The Progress of Financial Regulatory Reforms,” October 31. p. 1. Available at: www.financialstabilityboard.org/publications/r_111104ff.pdf.