Transcript Slide - Centre for Law, Markets and Regulation

The Nature and Purpose of
Financial Regulation
Douglas W. Arner
Professor & Head, Department of Law
University of Hong Kong
Overview
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Finance
Evolution of financial regulation
Financial stability and economic growth
East Asia
The Global Economy
• 2011 Global GDP (current prices – real
exchange rates): US$ 70.16 trillion
• 2011 Global GDP (purchasing power parity –
PPP): US$ 78.95 trillion
• Source: IMF / CIA
Trade in Goods 2011
(Source: WTO)
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Exports: US$ 17.779 trillion (20% increase)
Imports: US$ 18 tr (19% decrease)
North America: US$ 2.283 / 3.090 tr
Europe: US$ 6.601 / 6.854 tr
South and Central America: US$ .749 / .727 tr
CIS: US$ .788 / .540 tr
Africa: US$ .597 / .555 tr
Middle East: US$ 1.228 / .665 tr
Asia: US$ 5.534 / 5.568 tr
Trade in Services 2011 (WTO)
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Exports: US$ 4.150 tr (11% increase)
Imports: US$ 3.865 tr (10% increase)
North America: US$ .668 / .516 tr
South and Central America: US$ .130 / .163 tr
Europe: US$ 1.964 / 1.605 tr
CIS: US$ .096 / .133 tr
Africa: US$ .085 / .149 tr
Middle East: US$ .111 / .210 tr
Asia: US$ 1.096 / 1.091 tr
Foreign Direct Investment 2011
(Source: UNCTAD)
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Inflows: US$ 1.524 tr
Outflows: US$ 1.694 tr
Stock: In – US$ 20.438 tr / Out – US$ 21.168 tr
Developed
– Inflows: US$ .748 tr
– Outflows: US$ 1.237 tr
– Stock: In – US$ 13.065 tr / Out – US$ 17.056 tr
• Developing / transition
– Inflows: US$ .684
– Outflows: US$ .384
– Stock: In – US$ 6.625 tr / Out – US$ 3.705 tr
Global Financial System, 2010
(Source: FSB)
• Global financial system: approx. US$ 240
trillion
• Shadow banking system: approx. US$ 60
trillion
Currency and Derivatives
(Source: BIS)
• Daily global foreign exchange turnover (including
spot, forwards, swaps, options and other products):
US$ 4 tr, 65% cross-border (Apr. 2010)
• Over-the-counter (OTC) derivatives (end-2011)
– Notional value: US$ 648 tr
– Replacement: US$ 27.3 tr
Purpose of Financial Markets
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Pricing / allocation of financial resources
Efficient pricing / allocation = financial development
Financial development = economic growth
Economic growth = development
• But: financial crisis = high costs
• Overall: confidence – key
Globalisation of Finance
1870-1914
1914-1944
1944-1973
1973-1982
1982-1993
1993-2007
2007 to present
“Golden Age”
Interwar
Bretton Woods
Oil Crises
Internationalisation
Globalisation
Global financial crises
Market failures, Intermediation and
Indirect Finance
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Irrational behaviour
Imperfect competition
Transaction costs
Asymmetric information
– Adverse selection
– Moral hazard
• Externalities: systemic risk
“Infrastructure”:
Law, Regulation, Institutions
• Market functioning / efficiency / development
– Systems: exchange, payment, clearance, settlement,
custody
– Rules: competition, behaviour, transactions costs,
information
– Information: data, research, ratings, compliance
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Fairness
Macroeconomic / monetary policy / development
Systemic risk / financial stability
Overall: Confidence – key
Elements: Prevention
• Financial infrastructure: payment / settlement
– plumbing (OTC derivatives)
• Well-managed financial institutions: licensing,
risk management, corporate governance,
market discipline
• Information
• Financial institution safety and soundness:
prudential regulation
Elements: Addressing crises
• Liquidity provider of last resort: central bank
• Financial institution resolution mechanisms,
including insolvency
• Consumer protection: deposit insurance etc
Systemic Risk and
Financial Stability
• Systemic risk:
– The risk that an event will trigger a loss of economic value
or confidence in, and attendant increases in uncertainty
about, a substantial portion of the financial system that is
serious enough to quite probably have significant adverse
effect on the economy.
– The adverse real economic effect are generally seen as
arising from disruptions to the payment systems, to credit
flows, and from the destruction of asset values.
• Financial stability
– Positive
– Negative
Global finance and crises:
Analytical framework
• Crises
– Currency
– Banking / financial
– Debt
• Liquidity / solvency
• Private / sovereign
East Asia: Development models
• Competitive experimentation
• Japanese developmental state model: exports
+ administrative direction of finance
• Financial liberalization
• AFC: limitations
AFC to GFC
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Export-led growth
Reserve accumulation
Financial reform
Regional cooperation
Asian regional financial integration:
Rationale
• Crisis imperative
• Economic imperative: trade / investment /
integration
• Development imperative: Asian resources
• Political imperative: counterbalance to
EU/euro, US/US$
• Context and approaches
– Domestic / regional / external
– Supply / demand
Asian finance post-GFC
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Trade
Investment
Capital
Financial services
– Post-crisis regulatory agenda
– Liberalization?
• The role of China
Financial reform
• Post-GFC debate: what model?
• Crisis lessons
– Financial stability
– Domestic / regional economic / financial
conditions
• Access to finance: underdeveloped rural /
urban areas
• Risk management tools: derivatives
• Innovation: Shadow banking