Financial Supervision Architecture

May 11, 2009 Editorial

The recent debate in Parliament surrounding the passage of the Insurance (Supplementary Provisions) Bill of 2009, presented the opportunity to our politicians to enlighten the populace on the key issue of an appropriate architectural structure for financial supervision in our country at this critical juncture. Unfortunately the debate produced more heat than light.

There was primarily the conflation of the separate (while connected) issues of financial supervision, financial regulation and finally the overall financial supervisory architecture that was being addressed specifically in the bill.

While supervisory architectures are not, as such, among the root causes of financial crises, weak oversight, regulatory gaps, and lack of coordination and information exchange among supervisors are often related to the features of the supervisory architecture.

The architecture plays an important role in making supervision effective and efficient. The Commissioner of Insurance, the institution that supervised the insurance sector, was simply being consolidated into the Bank of Guyana (BOG), which already had supervisory authority over the rest of the financial sector. The essential question, therefore, concerns the new supervisory architecture that has emerged.

In his presentation of the Budget back in February, the Minister of Finance had signalled the administration’s intention to “strengthen” the Financial Institutions Act as well as issuing “additional supervision guidelines and insurance regulations…issued to strengthen oversight of the sector.”

It would appear that he did not, at that time, envisage consolidating the supervision of the banking and insurance industries under the Bank of Guyana’s umbrella. To counter suspicions that the administration was not merely reacting in an ad hoc manner to the unfortunate shooting of the Commissioner of Insurance, the Minister ought to have defended the new supervisory model much more rigorously.

Because, as a point of fact, the debate over financial supervision did not start or stop after the 2000 World Bank study that the Minister alluded to but played out in the real world as several countries experimented with various supervisory structures.

The traditional “silo” model – one supervisor per segment of the financial sector – that had been deployed since the thirties was felt lacking because of the revolution in financial services since. The key issues for supervision, evidently, were whether there should be one or multiple supervisory authorities and whether and how the central bank should be involved in supervision.

The Scandinavian countries began to move to one unified supervisory body – outside of their central banks – but it was Britain’s adoption of the model that opened the floodgates that saw some of the largest economies in Europe (e.g. Germany) and Asia (e.g. Japan) jumping aboard.

The landscape became even more diversified with the adoption, in the Netherlands and Australia, of the twin-peak model – the assignment of one supervisor per public objective. Thus to point out that President Jagdeo as Finance Minister had backed the “silo” model back in 1998 is irrelevant: times change, and so perchance should institutions. The test should be effectiveness in performance.

Where Guyana is bucking the trend is that greater centralisation elsewhere has been accompanied by creating a new agency, removing supervisory functions from the central bank and leaving it with just control of monetary policy. Historically where the central bank has been the bank supervisor, the probability that a unified supervisor outside the central bank will be established diminishes – notwithstanding the example of Britain.

One legislator suggested that the government might be unifying the supervisory architecture because it has greater control over the Bank of Guyana than over the COI. This is a very serious charge and should have been supported with examples rather than histrionics. While regulatory capture or governmental meddling is always possible, regulatory arbitrage, which is resolved by unification, was much more probable in our crisis.

From the evidence available in the last two decades, it appears that unified regimes, on average, are associated with higher quality and consistency of supervision. Whether the unified supervisor external or internal to the central bank does not seem to matter.