The crisis

The shocks that reverberated through financial markets in 2007/8 have not entirely dissipated; indeed a number of aftershocks are still being felt, not least because many of the problems that were revealed by the crisis have not been resolved.

Governments, central banks and regulators around the world are still struggling with the problem of how to create a financial system that is innovative and profitable, that supports and indeed enhances the performance of the economy in general, and, is at the same time, stable and secure.

Jersey has, I believe, managed the crisis years rather better than a number of other jurisdictions that specialise in financial services. A good deal of credit for that must go to my colleagues at the Jersey Financial Services Commission.
I know that everyone at the JFSC has been gratified that in recent months both the Chief Minister and the Treasury Minister have acknowledged that the Commission has served the Island very well indeed in these crisis years.

It hasn’t been easy.

Not only did the Commission have to deal with licence-holders in trouble, but also it had to try to understand, and indeed manage, in the best interests of the Island, the flood of international and UK regulatory initiatives that the crisis has stimulated.

Moreover, the crisis necessitated that the Commission take a number of what I believe to be bold decisions:

1. in authorisation, where a number of high profile fund and company structuring proposals were not accepted, and some difficult bank licensing calls were made;
2. in supervision, where the Commission has nursed several failing trust companies to new ownership with structured workouts of both good and bad books, and the Commission has significantly augmented its work as a bank supervisor;
3. and in enforcement, where the Commission tackled some serious misconduct as well as a number of controversial cases of investment mis-selling.

Many of these decisions that have not been, let us say, universally popular.

1. But no effective regulator will ever be popular.
2. By definition, regulation involves stopping people doing things that they want to do, and requiring them to do things that they don’t want to do.
3. But an accomplished regulator can be respected and recognised as a force for the general good, and that is what I intend JFSC will be under my Chairmanship.

Hence one of my tasks this evening is to outline what I believe, in this Island, an accomplished regulator should look like.

The acceleration of change

But before doing that I need to outline what, from my perspective, have been the consequences for financial services in Jersey of the seismic forces that the crisis has unleashed on the broader financial environment.

Today the both Industry and the Financial Services Commission face the challenge of change.

It is a truism that the world of finance is characterised by rapid innovation – sometimes that innovation is driven by the desire to enhance efficiency, sometimes it is in response to regulatory change (a process that tends to create its own tail-chasing dynamic).

But what has been generally true in the past, is even more true today.

The financial crisis has resulted in fundamental changes in the operations of financial institutions and the behaviour of financial markets. The significance of these changes for future of markets and for economic performance in general is, to be frank, as yet not fully understood.

But we cannot stand aside and just let change happen to us. If we do that we will be outflanked and condemned to competitive decline. We need to do our best, first, to understand, and then to shape the future.

Change of immediate interest to Jersey is taking place in (at least) 3 areas: First, the structure of financial markets is undergoing rapid change.

For example, there are important developments in the growth of shadow banking, i.e. the performance of banking functions by non-banks, such as asset managers and insurance companies.

A corollary of this growth in shadow banking has been the growth of bond markets, sovereign and corporate. In the past three years there has been a major switch in the composition of financial flows from developed to emerging markets, with a significant swing toward bond financing. And a similar pattern has emerged in the financing of medium-sized enterprises within developed economies, including the UK and the US.

Why might this growth of bond financing this have regulatory implications?

As we all know, bond markets are particularly sensitive to interest rate changes. On 21st May 2013, Ben Bernanke first mentioned the idea of gradually reducing or “tapering” the Federal Reserve Board’s monetary expansion. Bernanke’s announcement, by raising the prospect of increases in interest rates, led to a rush to cover potential losses, with convulsive movements in currency and bond markets. It is clear, today, that the Fed expects more of the same instability in the future.

What this incident taught us is that systemic risk is no longer the sole preserve of leveraged banks. Unleveraged asset managers can create systemically unstable positions too.

This is just one example. Many more are likely to follow as the changing structure of financial markets relocates risk – almost certainly in a manner that will affect Jersey financial entities in entirely new, unexpected ways.

Another example of change that has significant regulatory implications is the changing balance of economic and financial strength between West and East. In future we know that we will have to undertake the formidable task of performing due diligence in respect of prospective financial flows from unfamiliar and often opaque jurisdictions.

Then add in the challenge of the emergence of virtual currencies, defined by the US Department of the Treasury as: “a medium of exchange that operates like a currency in some environments, but does not have all the attributes of real currency”.

The key attribute a virtual currency does not have is the status of legal tender, nor does any central bank stand behind it. As you will all know recently we broke new ground by authorising our first Bitcoin fund here in Jersey. I can assure you that we are watching the turbulent developments in the Bitcoin world very carefully indeed.

Our second major set of consequential changes is occurring in the content and implementation of financial regulation: internationally, in the European Union and in the UK, all with major implications for Jersey.

Three recent developments pose challenges for the way in which the JFSC has approached its regulatory tasks.

1. First, the major regulators have declared that they will “protect the taxpayer” by seeking to establish effective resolution regimes for major banks, supposedly eliminating the threat of “too big to fail”, and hence undermining the Commission’s characterisation of a top 500 bank as having a public bail-out guarantee. Whether this attempt to insulate the taxpayer will succeed is another question. At the moment I believe the claim is not credible – but that’s another story for another day.
2. Secondly, the inability of authorities around the world to agree on the content of reform has resulted in diverse structures within the new regulatory regimes (in banking the Volker rule in the US is different from the Liikanen proposals in the EU and both are different from the Vickers inspired legislation in the UK). This creates the potential for major market realignments via regulatory arbitrage that may pose significant challenges to regulation in Jersey – and yet may create business opportunities too.
3. Thirdly, the extension of quasi-extra-territorial regulation in terms of demands for regulatory equivalence, or of truly extra-territorial rulings as in the case of FATCA, inevitably changes the dynamics of financial market development, and therefore financial regulation in Jersey.

Read The Full Speech – http://bit.ly/1r0kOS2