The Wall Street Journal-20080122-Credit Crunch- A Game of Global Regulation- European Policy Makers Race to Get Ahead of Next Crisis
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Credit Crunch: A Game of Global Regulation; European Policy Makers Race to Get Ahead of Next Crisis
With credit turmoil putting increasing pressure on European banks and financial markets, policy makers are pushing to improve their ability to deal with a global crisis.
Like their U.S. counterparts, Europe's bank regulators were caught short as the subprime-mortgage crisis claimed victims on their home turf, in part because they didn't have a grip on events beyond their borders.
Now, with mortgage losses mounting and the outlook for banks deteriorating, some are pushing to improve their early-warning systems and figure out how to coordinate in the event of a disaster, such as the failure of a large bank with multinational operations.
In the U.S., the Federal Reserve has proposed rules to curtail potentially abusive lending practices, while the House of Representatives has passed a bill to prohibit certain lending practices. But the Europeans are looking aggressively at broader solutions, in part because their banks suffered big hits in a credit crisis that began in the U.S. European regulators also continue to grapple with bringing the region's closely intertwined financial- services sectors and markets together.
Alistair Darling, the United Kingdom's finance minister, last week called for the International Monetary Fund and the Financial Stability Forum, a Switzerland-based group that brings together representatives of central banks, regulators and treasury departments, to create an early-warning system and map out financial links between countries and potential risks. He hopes to have full backing for the idea before a meeting of finance ministers from the Group of Seven leading nations next month.
In a recent speech, Charlie McCreevy, the European Commission's top markets official, called Europe's system out of date. National regulators in 27 countries oversee locally based banks, but they typically have little responsibility for the financial soundness of foreign banks that do business in their countries.
Because there is little sharing of information about companies that operate across national boundaries, regulators aren't always aware of risks that could affect them, and they have a hard time working together when problems arise.
The case of mortgage lender Northern Rock PLC, which in September became the target of the U.K.'s first bank run in more than a century, served as a wake-up call. The mortgage lender's troubles caught the British market regulator, the Financial Services Authority, off-guard in part because they stemmed from a freeze in lending markets located largely beyond the U.K.'s borders -- an event for which Northern Rock hadn't done stress-testing, and which the regulator hadn't spotted as a risk to the bank, FSA Chairman Callum McCarthy has said.
The downfall of two midsize German banks -- Saxony-based state- controlled lender SachsenLB and Dusseldorf-based IKB Deutsche Industriebank AG -- also demonstrated how crises can develop across borders. The banks, both regulated in Germany, required emergency bailouts last summer amid losses on specialized funds they had set up in Ireland and, in IKB's case, managed out of London.
The funds, which invested in U.S. subprime-mortgage securities, fell outside the purview of both German and Irish regulators, but they spooked investors all over the world -- including the city of Oakland, Calif., which had bought IOUs issued by the IKB fund. A spokeswoman for the Irish Financial Regulator declined to comment on the funds but noted that such funds are for professional investors only.
A spokesman for German markets regulator BaFin said such problems require an international solution.
The potential for contagion goes far beyond Europe's boundaries. Indeed, the financial pressures European banks are enduring stem largely from lending excesses that originated in the U.S. and from complex mortgage investments created in large part by U.S. banks.
Most of the major European banks do a large share of their business outside their home countries. Because home-country regulators are responsible for parent banks' financial health, countries with heavy foreign investment can find their banking systems almost entirely in the hands of foreign regulators. In Estonia, for example, 95% of the banking systems' assets are owned by banks based in Scandinavia and regulated there.
Mr. McCreevy's solution: Set up a team of supervisors for each cross-border banking group, made up of regulators from all countries in which the company operates. Regulators would use this to share information, discuss risks and coordinate policy. Such a mechanism could, for example, set common guidelines for how banks should disclose their losses on subprime-mortgage investments.
Other European policy makers want to move toward a common EU standard for supervising financial institutions and an EU-wide regulatory agency. Some nations, including the U.K., Germany and Finland, oppose the idea, saying a one-size-fits-all approach won't work.
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Damian Paletta contributed to this article.
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Finding a Fix
As the global credit crisis puts increasing pressure on cross-border
financial institutions, European regulators and politicians are offering
different ideas on how to be prepared for trouble.
-- EU Markets Commissioner Charlie McCreevy: Wants to set up teams of
national supervisors that would share information, discuss risks and
coordinate policy on cross-border banking groups.
-- French and Italian politicians: Some officials there want to move toward
an EU-wide regulatory agency, which would have the power to oversee banks and
markets throughout Europe.
-- U.K. Treasury: Wants greater cooperation between the International
Monetary Fund and the Financial Stability Forum, a Swiss-based group that
brings together epresentatives of central banks, regulators and treasury
departments, to create a global early-warning system for financial crises.
-- Financial Services Authority: Has called for new rules governinghow ]
banks with global operations make sure they have enough cash on hand in the
event of a crisis.
