Topic 2 - Regulation of Financial Institutions

Question 1

In terms of government regulation, the last 50 years is often divided into three periods:

Answer 1

2. 1.1Regulation (pre-1980s)
3. 1.2Deregulation (1980s)
4. 1.3Post-deregulation (1990s onward)

Two key events in the history of regulation are: 2.1.4The Wallis Inquiry (1997)
2.1.5The Murray Inquiry (2014)

Question 2

Prior to the 1980s, banks were subject to very stringent regulation, including restrictions on:

Answer 2

Who could operate as a bank 
The entry of foreign banks 
The types and maturity of deposits 
The size and type of loans made 
Interest rates paid and received 
A Liquid and Government Securities ratio 
A Statutory Reserve Deposit ratio

Question 3

During the 1980s, the level of regulation faced by banks was progressively eased:

Answer 3

Monetary and interest rate controls were eased or lifted 
Building societies were permitted to become banks Foreign banks were allowed to operate in Australia The Australian dollar was floated

Question 4

ESTABLISHMENT OF THE WALLISINQUIRY

Answer 4

The Campbell Inquiry (1981) and the Martin Review (1984) led to the 1980s deregulation
By the 1990s there was a need to establish wide-ranging enquiry to evaluate the Australian financial system
The Financial Systems Inquiry was established in June 1996 and reported in April 1997, and is usually referred to as the Wallis Inquiry (after its chairman, Stan Wallis)

Question 5

Terms of reference for the Wallis Inquiry

Answer 5

Considering the impact of the deregulation during the 1980s 
Analysing the forces likely to drive further change Making recommendations on regulatory arrangements affecting the financial system 
Taking account of, but not making recommendations on, monetary policy, retirement incomes policy, the regulation of general companies and taxation policy

Question 6

Most of the Report’s 115 recommendations were accepted, including

Answer 6

Restructuring regulatory arrangements so that the emphasis is now on regulation by function rather than by type of institution 

Policies to promote greater competition within the financial system

The only significant recommendation that was not accepted was abolition of the “6 pillars policy”, although it became a “4 pillars policy”

Question 7

MURRAY INQUIRY TERMS OF REFERENCE

Answer 7

The inquiry’s terms of reference were based on one overriding objective: 
Position the financial system to best meet Australia’s evolving needs and support economic growth

The final report comprised two general themes: Funding the Australian economy: Removing distortions to efficiency 
Competition: Allowing competition and market forces to drive the economy

Question 8

The final report had five specific themes, and the final recommendations are grouped accordingly:

Answer 8

RESILIENCE –Strengthen the Australian economy by making the financial system more resilient
RETIREMENT INCOMES –Lift the value of the superannuation system and retirement incomes
INNOVATION –Drive economic growth and productivity through settings that promote innovation
CONSUMER OUTCOMES –Enhance confidence and trust by creating an environment in which financial firms treat customers fairly
REGULATORY SYSTEM –Enhance regulator independence and accountability, and minimise the need for future regulation

Question 9

In its response to the Murray Inquiry final report, the government

Answer 9

Agreed with 41 of the report’s 44 recommendations, and will implement those recommendations, allow APRA to do so, or will consider how best to implement them in the future 

Disagreed with 1 recommendation 

Agreed with the objectives of the other 2 recommendations, but disagreed with the specific approach recommended by the report

Question 10

Three components of current regulatory system

Answer 10

2. 4.1The Reserve Bank of Australia
3. 4.2The Australian Securities and Investments Commission (ASIC)
4. 4.3The Australian Prudential Regulation Authority (APRA)

The key element of the current approach to the regulation of financial institutions is:

2.4.4Prudential supervision

Question 11

THE AUSTRALIAN PRUDENTIAL REGULATION AUTHORITY (APRA)

Answer 11

APRA was established by the Australian Prudential Regulation Authority Act 1998 as a result of the Wallis Inquiry APRA is responsible for the prudential supervision of: 
Banks 
Non-bank financial institutions 
Insurance and superannuation companies

Question 12

Prudential supervision

Answer 12

Prudential supervision refers to requirements to limit risk-taking by financial institutions, to ensure the safety of depositors’ funds and the stability of the financial system

Question 13

There are 9 separate aspects to prudential supervision

Answer 13

Authorisation of banks 
Ownership and control of banks
Association with non-banks
Non-callable deposits 
Supervision of bank liquidity 
Exposure limits 
Capital adequacy
External review 
Board attestation

Question 14

Assessing the capital adequacy of a bank is a 6-step process

Answer 14

1. Credit risk-weighted balance sheet assets
2. Credit risk-weighted off-balance-sheet items
   (a) Market-related transactions
   (b) Non-market-related transactions
3. Notional market risk-weighted assets
4. Calculating total assessed risk
5. Identifying the capital base
6. Calculating the Capital Adequacy Ratio

Question 15

NamethethreemainregulatorybodiesinvolvedwiththeAustralianfinancialsector; identifytheirspecificareasofresponsibility.

Answer 15

TheReserveBankofAustraliaisresponsibleformonetarypolicy,systemicstabilityandthe paymentssystem. TheAustralianPrudentialRegulationAuthorityisresponsiblefortheprudentialregulationof deposittakingincludingbanks,buildingsocietiesandcreditunions,aswellasforinsuranceand superannuationinstitutions. TheAustralianSecuritiesandInvestmentsCommissionisresponsibleforconsumerprotection andmarketintegrity.

Question 16

. Whatisthe‘fourpillars’policy?

Answer 16

The‘fourpillars’policyprecludesamergerbetweenthefourmajorbanks(ANZ,Commonwealth,NationalAustraliaandWestpac).ItwasintroducedinMarch1997inresponsetotheWallis Inquiry’srecommendationthatthesix‐pillarspolicyberemoved.Thesix pillarspolicycoveredthefourbanksplusthetwomajorlifeinsurers–AMPandNationalMutual(sincetakenoverby AxaAsiaPacific)