Rethinking Bank Regulations Till angels govern but who are the angels - PowerPoint PPT Presentation


Title: Rethinking Bank Regulations Till angels govern but who are the angels


1
Rethinking Bank RegulationsTill angels
govern(but who are the angels?)
  • Comments
  • Roberto Rocha, FPDFS

2
Overview of Objectives, Methodology, and
Conclusions
  • Main objective identify which approaches to bank
    regulation and supervision lead to better
    outcomes
  • Outcomes defined by banking development,
    stability, efficiency, integrity
  • Methodology Large questionnaire (275 questions)
    sent to 150 countries
  • Answers combined to produce large number of
    indices
  • Indices used as regressors
  • Outcomes (dependent variables) measured by
    private credit/GDP, interest margin, crisis
    index, lending corruption index

3
Overview of Objectives, Methodology, and
Conclusions
  • Main Conclusions
  • Strong direct official supervision and capital
    standards (pillars 1 and 2) do not generate
    positive results
  • In contrast, policies that facilitate private
    monitoring of banks (pillar 3) produce much
    better outcomes
  • Boost bank development
  • Improve bank efficiency
  • Reduce corruption in lending
  • Lower bank fragility

4
Overview of Objectives, Methodology, and
Conclusions
  • Some of the arguments used to substantiate
    conclusions
  • Capture of politicians/supervisors by control
    groups, (corruption) powerful supervision aimed
    at favoring the privileged. These actors are no
    angels.
  • Regulators in high income countries take the view
    that their approach is best for other countries.
  • Results show that policies that facilitate
    private sector monitoring work best it is
    essential to empower private actors through
  • Disclosure of reliable, comprehensive, timely
    information
  • Incentives to monitor
  • Laws that strengthen the rights of private
    investors

5
General Comments
  • General concept and objectives of the exercise
    are very attractive, could generate important
    policy lessons
  • However, methodological problems are not trivial
  • Potential differences between statutory
    parameters and the reality of supervision is
    acknowledged by the authors
  • The questionnaire may not capture the reality of
    bank regulation and supervision, differences
    across countries
  • Several questions are too general/vague
  • No guidelines clarifying objectives of each
    question, and minimizing differences in
    interpretation
  • Important questions missing
  • Definitions/criteria used for building the
    indices from the answers are arbitrary, not clear
  • Main problem measurement errors on the right
    hand side of the equation, but also other
    methodological issues

6
General Comments
  • Scores and rankings (and the regression results)
    are very sensitive to definitions/criteria used
    to build the indices
  • Example Correlation of BCL index of central bank
    independence, with another index by Arnone,
    Laurens and Segalotto (ALS) (IMF2007) is only 0.1
  • ALS index is more comprehensive, capturing more
    aspects of central bank independence
  • Some indices are inconsistent with evidence
    produced by the questionnaire itself
  • Example CEE countries are the most open
    countries, as indicated by highest shares of
    foreign ownership yet most restrictive according
    to the entry restrictions index (almost all
    countries scored max of 8)
  • Bona fide foreign investors could easily meet the
    8 requirements in the index In fact, correlation
    of index with share of foreign investors is
    positive (0.2)
  • At the same time, real statutory restrictions not
    captured in the index

7
General Comments
  • Country rankings are too counter-intuitive in
    many cases
  • Examples Nigerian supervisor more independent
    than Chilean Brazil as open as New Zealand
    accounting/auditing standards very similar across
    countries
  • Some answers reflect lack of guidelines
  • Example Australia classified as multiple
    supervisor and UK as unified supervisor
  • Questionnaire and regression results produce a
    main hero and a main villain
  • Main hero Private Monitoring Index (pillar 3)
  • Main villain Official Supervisory Power Index
    (pillar 2)
  • More detailed analysis of these two indices is
    warranted

8
The Main Hero Private Monitoring Index
  • What should the index capture
  • The disclosure of reliable, comprehensive, timely
    information
  • Incentives for private agents to monitor banks,
    both positive and negative
  • How would the index capture these elements
  • Quality of bank accounting
  • Quality/integrity of external auditing
  • Quality of disclosure rules
  • Existence of subordinated debt
  • Existence of effective rating industry
  • Existence of de facto deposit insurance
  • Legal liabilities of pillar 3 players directors,
    auditors, raters
  • Existence of effective, clean judicial system

9
The Main Hero Private Monitoring Index
  • Index probably does not reflect effectiveness of
    pillar 3 and differences across countries
  • Assessment of the quality and integrity of
    external auditing is too shallow no differences
    across countries
  • One single, trivial, aspect existence of
    certified bank audits
  • Except for China, Italy, all countries got a 1
  • Albania, Burkina, Bolivia, Central Afr. Republic,
    Honduras, Zimbabwe have the same auditing score
    as the US and the UK
  • Some important audit information used in other
    indices but not in this one (e.g., scope of
    audit, relations with supervisor)
  • Evidence from questionnaire on de facto absence
    of legal liability of auditors is ignored
  • Key aspects of auditing function missing in the
    questionnaire (e.g., scope, independence,
    conflicts of interest, SRO)

10
The Main Hero Private Monitoring Index
  • Assessment of quality of accounting too shallow,
    not capturing differences across countries
    either
  • Question on whether accrued interest on NPLs
    enters the income statement disregards quality of
    loan classification
  • Questions on elements of disclosure (off-balance
    sheet items, risk management) too vague,
    especially second - yes or no.
  • Bank directors in all countries are liable for
    disclosing wrong information disregards evidence
    of lack of enforcement due to judicial corruption
    in ECs
  • Answers on of 10 top banks rated are revealing
    some supervisors were not certain, no domestic
    raters in most countries
  • Except for Germany, Tunisia, all countries got 3s
    and 4s (1-4)
  • Quality of accounting in Egypt, Nigeria,
    Paraguay, Russia, Rwanda equal to US, UK, higher
    than France, Germany, Sweden

11
The Main Hero Private Monitoring Index
  • Assessment of the existence of moral hazard
    through provision of deposit insurance does not
    capture the reality of many countries
  • Question relies on existence of explicit deposit
    insurance
  • In many countries deposits are insured by the
    government, no depositor has lost a cent, despite
    absence of explicit insurance
  • Examples Egypt, Kuwait, Saudi Arabia, other Gulf
    countries
  • Egypt example Bank restructuring program has
    entailed exit of 20 weak banks (out of 50) in the
    past 3 years, through organized mergers and
    acquisitions.
  • Question would need to be reformulated

12
The Main Hero Private Monitoring Index
  • Final result compressed scores, ranging from 5
    to 11 average 7.8, SD 1.4 unlikely to reflect
    actual differences across countries
  • Only 2 countries scored 11 Canada and Kuwait
  • Egypt and Gulf countries (Kuwait, Oman, Saudi
    Arabia, Oman, UAE) got high scores, average
    10, reflecting inter alia, absence of explicit
    deposit insurance
  • Different reality, strong (implicit but
    well-known) deposit insurance by Government
  • Index should be revised, robustness of results
    tested
  • Elements from the existing questionnaire should
    be included
  • Several questions reformulated, some dropped
  • Additional questions included
  • Guidelines/instructions explaining objectives

13
The Main Villain Official (Direct) Supervisory
Power Index
  • Index presumably measures statutory enforcement
    powers, based on 14 questions
  • 3 questions relate to relations with auditor
    (presumably important for the effectiveness of
    audit function and pillar 3)
  • 11 questions on enforcement, of which
  • 3 deal essentially with the same supervisory
    action
  • Whether supervisor can suspend dividends,
    bonuses, fees
  • 5 questions on enforcement check/compare power of
    supervisor, other agencies, courts to enforce key
    actions
  • Court involvement implies weaker powers, lower
    scores
  • 1 question deals with a basic reporting
    requirement (whether off-balance sheet items are
    disclosed to supervisor)

14
The Main Villain Official (Direct) Supervisory
Power Index
  • Very difficult to assess this index
  • Index is not highly correlated with the
    supervisory independence index (corr. 0.2)
  • Questionnaire does not capture regulatory powers
    (i.e. power to issue binding secondary
    regulation)
  • Questionnaire does not deal with the supervisory
    process
  • No information on basic numbers (e.g. numbers,
    salaries)
  • No information on on-site and off-site procedures
  • Index seems restricted to some specific statutory
    aspects of enforcement
  • Therefore, index captures very limited aspects of
    pillar 2 and even these aspects may not be
    sufficiently addressed

15
The Main Villain Official (Direct) Supervisory
Power Index
  • Not clear whether the three questions dealing
    with the auditor relate more to pillar 2 than
    pillar 3
  • Many countries answered yes to whether supervisor
    can take legal action for auditor negligence but
    most of these also answered that this has not
    happened
  • Either auditors are doing a very good job, or the
    supervisor is a lion without teeth
  • Second information is not used at all in the
    exercise
  • Absence of de facto legal liability could make
    all these three questions irrelevant

16
The Main Villain Official (Direct) Supervisory
Power Index
  • Question on whether off-balance items are
    reported to supervisor is too basic all
    countries answered yes.
  • Almost all countries also answered that
    supervisor have powers to order management to
    build provisions
  • Final result Slightly wider differences across
    countries relative to private index (average
    10.9, SD 2.6), but is it capturing
    effectiveness of pillar 2?
  • One difficult but critical issue not sufficiently
    examined the questions dealing with court
    involvement disregard the effectiveness of the
    judicial system

17
(No Transcript)
18
(No Transcript)
19
Other Methodological Issues
  • Measurement errors in the dependent variables
  • Variable measuring banking crisis what was the
    treatment of countries where banks were deeply
    insolvent but there was never an open crisis, and
    where large stock of NPLs was never shown before
    the main restructuring program?
  • Specification problems
  • Many, more important factors, affecting dependent
    variables such as stock of private credit/GDP
    inflation history, timing of recapitalization
    program with massive carve-outs
  • Endogeneity
  • Are there instruments to address response of
    regulatory and supervisory actions to shocks?

20
Summing Up
  • Methodology
  • Most serious problem measurement errors in the
    independent variables (indices built and used)
  • Errors are probably of such a magnitude that
    cannot be addressed by any of the available
    techniques
  • Specification problem in some of the regressions
  • Overall, robustness of results is questionable

21
Summing Up
  • Policy Messages
  • Message that pillar 3 is important would find
    support
  • Message that pillar 2 is always ineffective,
    leading to corruption, and that only hope is
    pillar 3 would not
  • Directors, auditors, raters, courts are no angels
    either
  • Exercise provides a very basic message, does not
    provide sufficient guidance to policy-makers
  • No pillar 2 at all? Some pillar 2, ma non
    troppo? (Are there non-linearities?) If so, what
    type of pillar 2?
  • What are the building blocks for an effective
    pillar 3?
  • In particular, how to deal with judicial
    corruption?

22
Summing Up
  • Proposal for next steps could include
  • Revising the questionnaire, elaborating
    guidelines
  • More inputs from bank supervisors,
    auditing/accounting experts
  • Greater use of available material, ROSCs
  • Objective build more reliable indices
  • Combine cross-country regressions with analysis
    of individual cases
  • Greater effort to identify policy lessons
  • Work program on Pillar 3
  • What are the pre-conditions/building blocks for
    an effective pillar 3?
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Rethinking Bank Regulations Till angels govern but who are the angels

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Title: Rethinking Bank Regulations Till angels govern but who are the angels


1
Rethinking Bank RegulationsTill angels
govern(but who are the angels?)
  • Comments
  • Roberto Rocha, FPDFS

2
Overview of Objectives, Methodology, and
Conclusions
  • Main objective identify which approaches to bank
    regulation and supervision lead to better
    outcomes
  • Outcomes defined by banking development,
    stability, efficiency, integrity
  • Methodology Large questionnaire (275 questions)
    sent to 150 countries
  • Answers combined to produce large number of
    indices
  • Indices used as regressors
  • Outcomes (dependent variables) measured by
    private credit/GDP, interest margin, crisis
    index, lending corruption index

3
Overview of Objectives, Methodology, and
Conclusions
  • Main Conclusions
  • Strong direct official supervision and capital
    standards (pillars 1 and 2) do not generate
    positive results
  • In contrast, policies that facilitate private
    monitoring of banks (pillar 3) produce much
    better outcomes
  • Boost bank development
  • Improve bank efficiency
  • Reduce corruption in lending
  • Lower bank fragility

4
Overview of Objectives, Methodology, and
Conclusions
  • Some of the arguments used to substantiate
    conclusions
  • Capture of politicians/supervisors by control
    groups, (corruption) powerful supervision aimed
    at favoring the privileged. These actors are no
    angels.
  • Regulators in high income countries take the view
    that their approach is best for other countries.
  • Results show that policies that facilitate
    private sector monitoring work best it is
    essential to empower private actors through
  • Disclosure of reliable, comprehensive, timely
    information
  • Incentives to monitor
  • Laws that strengthen the rights of private
    investors

5
General Comments
  • General concept and objectives of the exercise
    are very attractive, could generate important
    policy lessons
  • However, methodological problems are not trivial
  • Potential differences between statutory
    parameters and the reality of supervision is
    acknowledged by the authors
  • The questionnaire may not capture the reality of
    bank regulation and supervision, differences
    across countries
  • Several questions are too general/vague
  • No guidelines clarifying objectives of each
    question, and minimizing differences in
    interpretation
  • Important questions missing
  • Definitions/criteria used for building the
    indices from the answers are arbitrary, not clear
  • Main problem measurement errors on the right
    hand side of the equation, but also other
    methodological issues

6
General Comments
  • Scores and rankings (and the regression results)
    are very sensitive to definitions/criteria used
    to build the indices
  • Example Correlation of BCL index of central bank
    independence, with another index by Arnone,
    Laurens and Segalotto (ALS) (IMF2007) is only 0.1
  • ALS index is more comprehensive, capturing more
    aspects of central bank independence
  • Some indices are inconsistent with evidence
    produced by the questionnaire itself
  • Example CEE countries are the most open
    countries, as indicated by highest shares of
    foreign ownership yet most restrictive according
    to the entry restrictions index (almost all
    countries scored max of 8)
  • Bona fide foreign investors could easily meet the
    8 requirements in the index In fact, correlation
    of index with share of foreign investors is
    positive (0.2)
  • At the same time, real statutory restrictions not
    captured in the index

7
General Comments
  • Country rankings are too counter-intuitive in
    many cases
  • Examples Nigerian supervisor more independent
    than Chilean Brazil as open as New Zealand
    accounting/auditing standards very similar across
    countries
  • Some answers reflect lack of guidelines
  • Example Australia classified as multiple
    supervisor and UK as unified supervisor
  • Questionnaire and regression results produce a
    main hero and a main villain
  • Main hero Private Monitoring Index (pillar 3)
  • Main villain Official Supervisory Power Index
    (pillar 2)
  • More detailed analysis of these two indices is
    warranted

8
The Main Hero Private Monitoring Index
  • What should the index capture
  • The disclosure of reliable, comprehensive, timely
    information
  • Incentives for private agents to monitor banks,
    both positive and negative
  • How would the index capture these elements
  • Quality of bank accounting
  • Quality/integrity of external auditing
  • Quality of disclosure rules
  • Existence of subordinated debt
  • Existence of effective rating industry
  • Existence of de facto deposit insurance
  • Legal liabilities of pillar 3 players directors,
    auditors, raters
  • Existence of effective, clean judicial system

9
The Main Hero Private Monitoring Index
  • Index probably does not reflect effectiveness of
    pillar 3 and differences across countries
  • Assessment of the quality and integrity of
    external auditing is too shallow no differences
    across countries
  • One single, trivial, aspect existence of
    certified bank audits
  • Except for China, Italy, all countries got a 1
  • Albania, Burkina, Bolivia, Central Afr. Republic,
    Honduras, Zimbabwe have the same auditing score
    as the US and the UK
  • Some important audit information used in other
    indices but not in this one (e.g., scope of
    audit, relations with supervisor)
  • Evidence from questionnaire on de facto absence
    of legal liability of auditors is ignored
  • Key aspects of auditing function missing in the
    questionnaire (e.g., scope, independence,
    conflicts of interest, SRO)

10
The Main Hero Private Monitoring Index
  • Assessment of quality of accounting too shallow,
    not capturing differences across countries
    either
  • Question on whether accrued interest on NPLs
    enters the income statement disregards quality of
    loan classification
  • Questions on elements of disclosure (off-balance
    sheet items, risk management) too vague,
    especially second - yes or no.
  • Bank directors in all countries are liable for
    disclosing wrong information disregards evidence
    of lack of enforcement due to judicial corruption
    in ECs
  • Answers on of 10 top banks rated are revealing
    some supervisors were not certain, no domestic
    raters in most countries
  • Except for Germany, Tunisia, all countries got 3s
    and 4s (1-4)
  • Quality of accounting in Egypt, Nigeria,
    Paraguay, Russia, Rwanda equal to US, UK, higher
    than France, Germany, Sweden

11
The Main Hero Private Monitoring Index
  • Assessment of the existence of moral hazard
    through provision of deposit insurance does not
    capture the reality of many countries
  • Question relies on existence of explicit deposit
    insurance
  • In many countries deposits are insured by the
    government, no depositor has lost a cent, despite
    absence of explicit insurance
  • Examples Egypt, Kuwait, Saudi Arabia, other Gulf
    countries
  • Egypt example Bank restructuring program has
    entailed exit of 20 weak banks (out of 50) in the
    past 3 years, through organized mergers and
    acquisitions.
  • Question would need to be reformulated

12
The Main Hero Private Monitoring Index
  • Final result compressed scores, ranging from 5
    to 11 average 7.8, SD 1.4 unlikely to reflect
    actual differences across countries
  • Only 2 countries scored 11 Canada and Kuwait
  • Egypt and Gulf countries (Kuwait, Oman, Saudi
    Arabia, Oman, UAE) got high scores, average
    10, reflecting inter alia, absence of explicit
    deposit insurance
  • Different reality, strong (implicit but
    well-known) deposit insurance by Government
  • Index should be revised, robustness of results
    tested
  • Elements from the existing questionnaire should
    be included
  • Several questions reformulated, some dropped
  • Additional questions included
  • Guidelines/instructions explaining objectives

13
The Main Villain Official (Direct) Supervisory
Power Index
  • Index presumably measures statutory enforcement
    powers, based on 14 questions
  • 3 questions relate to relations with auditor
    (presumably important for the effectiveness of
    audit function and pillar 3)
  • 11 questions on enforcement, of which
  • 3 deal essentially with the same supervisory
    action
  • Whether supervisor can suspend dividends,
    bonuses, fees
  • 5 questions on enforcement check/compare power of
    supervisor, other agencies, courts to enforce key
    actions
  • Court involvement implies weaker powers, lower
    scores
  • 1 question deals with a basic reporting
    requirement (whether off-balance sheet items are
    disclosed to supervisor)

14
The Main Villain Official (Direct) Supervisory
Power Index
  • Very difficult to assess this index
  • Index is not highly correlated with the
    supervisory independence index (corr. 0.2)
  • Questionnaire does not capture regulatory powers
    (i.e. power to issue binding secondary
    regulation)
  • Questionnaire does not deal with the supervisory
    process
  • No information on basic numbers (e.g. numbers,
    salaries)
  • No information on on-site and off-site procedures
  • Index seems restricted to some specific statutory
    aspects of enforcement
  • Therefore, index captures very limited aspects of
    pillar 2 and even these aspects may not be
    sufficiently addressed

15
The Main Villain Official (Direct) Supervisory
Power Index
  • Not clear whether the three questions dealing
    with the auditor relate more to pillar 2 than
    pillar 3
  • Many countries answered yes to whether supervisor
    can take legal action for auditor negligence but
    most of these also answered that this has not
    happened
  • Either auditors are doing a very good job, or the
    supervisor is a lion without teeth
  • Second information is not used at all in the
    exercise
  • Absence of de facto legal liability could make
    all these three questions irrelevant

16
The Main Villain Official (Direct) Supervisory
Power Index
  • Question on whether off-balance items are
    reported to supervisor is too basic all
    countries answered yes.
  • Almost all countries also answered that
    supervisor have powers to order management to
    build provisions
  • Final result Slightly wider differences across
    countries relative to private index (average
    10.9, SD 2.6), but is it capturing
    effectiveness of pillar 2?
  • One difficult but critical issue not sufficiently
    examined the questions dealing with court
    involvement disregard the effectiveness of the
    judicial system

17
(No Transcript)
18
(No Transcript)
19
Other Methodological Issues
  • Measurement errors in the dependent variables
  • Variable measuring banking crisis what was the
    treatment of countries where banks were deeply
    insolvent but there was never an open crisis, and
    where large stock of NPLs was never shown before
    the main restructuring program?
  • Specification problems
  • Many, more important factors, affecting dependent
    variables such as stock of private credit/GDP
    inflation history, timing of recapitalization
    program with massive carve-outs
  • Endogeneity
  • Are there instruments to address response of
    regulatory and supervisory actions to shocks?

20
Summing Up
  • Methodology
  • Most serious problem measurement errors in the
    independent variables (indices built and used)
  • Errors are probably of such a magnitude that
    cannot be addressed by any of the available
    techniques
  • Specification problem in some of the regressions
  • Overall, robustness of results is questionable

21
Summing Up
  • Policy Messages
  • Message that pillar 3 is important would find
    support
  • Message that pillar 2 is always ineffective,
    leading to corruption, and that only hope is
    pillar 3 would not
  • Directors, auditors, raters, courts are no angels
    either
  • Exercise provides a very basic message, does not
    provide sufficient guidance to policy-makers
  • No pillar 2 at all? Some pillar 2, ma non
    troppo? (Are there non-linearities?) If so, what
    type of pillar 2?
  • What are the building blocks for an effective
    pillar 3?
  • In particular, how to deal with judicial
    corruption?

22
Summing Up
  • Proposal for next steps could include
  • Revising the questionnaire, elaborating
    guidelines
  • More inputs from bank supervisors,
    auditing/accounting experts
  • Greater use of available material, ROSCs
  • Objective build more reliable indices
  • Combine cross-country regressions with analysis
    of individual cases
  • Greater effort to identify policy lessons
  • Work program on Pillar 3
  • What are the pre-conditions/building blocks for
    an effective pillar 3?
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