Chapter 3 - Regulation Flashcards
What are the principal aims of regulation?
GRIP
- Give confidence in the financial system
- Reduce financial crime
- Inefficiencies in the market corrected and to promote efficient and orderly markets
- Protect consumers of financial products
What are the direct costs of regulation?
- administering the regulation
e.g collection and examination of information provided by market participants and otherwise monitoring their activities - ensuring the compliance for the regulated firms
e.g maintaining appropriate records
most of these costs are ultimately borne by the investor in the form of either higher taxation to fund the regulator or higher charges and fees for the financial services purchased
What are the indirect cost of regulation?
PUMA
- product innovation reduced
- undermining of intermediaries and advisors professionalism
- market reduces it’s own consumer protection mechanism
- alteration of consumer behaviour, false sense of security and a reduced sense of responsibility
What are the main functions of a regulator?
SERVICE
- Setting sanctions
- Enforcing regulations
- Reviewing and influencing government policy
- Vetting and registering firms and individuals
- Investigating breaches
- Checking management and conduct of providers
- Educating consumers and the public
What actions can the regulator take to reduce asymmetries of information?
SPIDER CC
Selling practices regulated
Price controls imposed
Insider trading prevented
Disclosure of understandable information
Educating consumers
Restricting knowledge to publicly available
Consumer cooling off period
Chinese walls established
5 Areas addressed by regulation - maintaining confidence
- Capital adequacy
- Competence and integrity
- Compensation schemes
- Investor protection (regulators seek to ensure that the market is transparent, orderly and protects investors)
- Stock exchange requirement
Prescriptive regulation
Detailed rules on what can and can’t be done
(often has greater costs, both direct and indirect)
Freedom of action regulation
Freedom but with rules on publicity
Outcome-based regulation
Freedom but with prescribed, tolerated outcomes
Outline the five main types of regulatory regime
- Self-regulatory systems, which are organised and operated by the market participants without government intervention
- Statutory regimes, where the rules are set and policed by the government.
- Voluntary codes of conduct, where there is a choice as to whether to adhere
- Unregulated markets / lines of business, with no regulation
- Mixed regimes, involving a combination of the above
Advantages of self-regulation
- The system implemented by the people with the greatest knowledge of the market, who also have the greatest incentive to achieve the optimal cost-benefit ratio.
- Should be able to respond rapidly to changes in market needs.
- May be easier to persuade firms and individuals to co-operate with a self-regulatory organisation than with a government bureaucracy.
Disadvantages of self-regulation
- The closeness of the regulator to the industry it is regulating. The danger that the regulator accepts the industry’s POV and is less in tune with 3rd parties.
- Can lead to a weaker regime than is acceptable.
- May inhibit new entrants to a market (existing participants frame rules)
What are the advantages and disadvantages of statutory regulation?
Advantages:
1. Less open to abuse
2. Instills more public confidence due to government involvement
3. Should be more efficient if economies of scale can be achieved
Disadvantages:
1. Costs and inflexibility
2. Outsiders may impose rules that are unnecessarily costly, inefficient and which may not achieve the desired aim
3. Government may be inexperienced in regulation
List possible functions of the central bank, as part of the regulatory or supervisory regime for financial product providers
To meet government targets, the central bank can:
- Control the money supply
- Determine or influence interest rates
- Determine or influence inflation rates
- Determine or influence exchange rates
- Ensure stability of the financial system
- Lender of last resort to commercial banks
- Target macro-economic features such as growth and unemployement
What are the aims of climate change related financial regulations?
CA FEUD
- consider climate risks in business decision making and strategic planning
- adopt a consistent and reliable means of assessing, pricing, and managing climate-related risks
- financial risks from climate change must be incorporated into the risk management framework
- environment, social and governance factors must be incorporated into investment management decisions
- use scenario analysis to inform risk identification and to estimate the impact of financial risks arising from climate change
- disclose and report on climate-related risks and opportunities
