Blog post

Has global financial reform run out of steam?

Publishing date
16 March 2011
Nicolas Véron

Just after the Lehman Brother collapse, financial regulatory reform was at the top of the global agenda, and it dominated the discussion at the first summit of G20 leaders in November 2008. By contrast, it was little more than an afterthought in the last G20 meeting in Paris last month. Many observers fret that the financial industry has reverted back to its pre-crisis business-as-usual mode. The financial regulatory agenda discourages most non-insiders because of its apparent intractable complexity, enhanced by barriers of jargon and multiple smokescreens put up by financial executives wary of public discussion, and public authorities eager to protect their turf.

Take a step back, though, and there is no reason to despair. The past two years have brought significant achievements. In the United States, the Dodd-Frank Act introduced numerous changes that are far from marginal, and most of its implementing rules are in the process of being completed. In the EU, crisis resolution and financial legislation have been generally slower, but the creation of the three European Supervisory Authorities, in effect the world’s first supranational financial supervisors, is a major breakthrough. Capital requirements are being substantially increased, with the Swiss authorities taking particular leadership. Authorities are also improving their ability to understand and monitor financial systems, including through the collection of relevant data.

Even so, the measures adopted so far stop short of an adequate global policy response to the unprecedented shock of the crisis and the chain reactions it triggered. Three monumental challenges require sustained and simultaneous attention.

The first one can be labeled “bad big banks,” those whose bankruptcy would be so disruptive that governments prefer to bail them out in a crisis. This problem of so-called too-big-to-fail financial institutions tends to be more actively discussed in the US, but is actually more acute in Europe, as national banking systems are far more concentrated and no consistent bank resolution framework exists at the European Union (EU) level. The United Kingdom has created an independent commission to address it, and the Financial Stability Board carries the discussion at the global level, but no obvious solution is in sight yet.

The second challenge is to avoid unintended consequences of reform in terms of financial fragmentation. Even though the economic impact of financial openness is multifaceted and difficult to quantify, a reversal of the pre-crisis momentum towards financial integration would certainly harm global growth prospects, and should be avoided. But this will require more global consistency in the regulation of key tangible and intangible infrastructures of capital markets. The unfinished saga of international accounting standards harmonization illustrates how difficult such an effort can be.

Third, the re-regulation of financial systems must be achieved without impairing their ability to foster growth. Contrary to much of the financial industry’s lobbying discourse, this aspect is not primarily about capital requirements, but rather about competition and innovation to deliver better and economically more productive financial services. In emerging markets, the overall provision of credit is generally insufficient and inefficient. In more advanced economies, credit is typically not directed to the borrowers that could make the best use of it, especially high-growth companies with no physical collateral to pledge. Financial stability concerns must be addressed without repressing useful financial development.

On each of these three dimensions, policymaking is hobbled by major analytical uncertainties, compounded by a surprising scarcity of relevant data and academic research. All three involve major issues of competition policy, which has generally been underdeveloped in finance compared to other industries. None of them can be expected to be comprehensively addressed any time soon.

Moreover, financial reform will be shaped by an increasingly unpredictable interaction with national politics. In many countries, public opinion and elected officials alike want the financial sector to pay a price for the crisis, which explains why so much of the debate is dominated by themes whose relevance is at best limited from a strictly financial stability perspective but which resonate with broader perceptions of unfairness, such as traders’ bonuses, naked short selling, rating agencies’ conflicts of interest, or the possibility of taxing financial transactions. An additional difficulty is the interplay between different geographical levels of reform. Of the previously mentioned challenges, the first involves a mix of local and global aspects, the second is mostly global, and the third mostly local. This set of issues creates multiple incentives for both public authorities and financial firms to shift responsibility and arbitrage the different levels, making progress considerably more difficult.

Financial reform is a never-ending effort, and the cycle that started with the crisis is far from completed. In furthering the cycle toward progress, policymakers should aim at maximizing the chances of a financial system that combines the desired attributes of stability, openness, efficiency, and fairness. This is likely to require even more policy vision and creativity than have been displayed so far.

Nicolas Véron is a senior fellow at Bruegel in Brussels and a visiting fellow at the Peterson Institute for International Economics in Washington

About the authors

  • Nicolas Véron

    Nicolas Véron is a senior fellow at Bruegel and at the Peterson Institute for International Economics in Washington, DC. His research is mostly about financial systems and financial reform around the world, including global financial regulatory initiatives and current developments in the European Union. He was a cofounder of Bruegel starting in 2002, initially focusing on Bruegel’s design, operational start-up and development, then on policy research since 2006-07. He joined the Peterson Institute in 2009 and divides his time between the US and Europe.

    Véron has authored or co-authored numerous policy papers that include banking supervision and crisis management, financial reporting, the Eurozone policy framework, and economic nationalism. He has testified repeatedly in front of committees of the European Parliament, national parliaments in several EU member states, and US Congress. His publications also include Smoke & Mirrors, Inc.: Accounting for Capitalism, a book on accounting standards and practices (Cornell University Press, 2006), and several books in French.

    His prior experience includes working for Saint-Gobain in Berlin and Rothschilds in Paris in the early 1990s; economic aide to the Prefect in Lille (1995-97); corporate adviser to France’s Labour Minister (1997-2000); and chief financial officer of MultiMania / Lycos France, a publicly-listed online media company (2000-2002). From 2002 to 2009 he also operated an independent Paris-based financial consultancy.

    Véron is a board member of the derivatives arm (Global Trade Repository) of the Depositary Trust and Clearing Corporation (DTCC), a financial infrastructure company that operates globally on a not-for-profit basis. A French citizen born in 1971, he has a quantitative background as a graduate from Ecole Polytechnique (1992) and Ecole Nationale Supérieure des Mines de Paris (1995). He is trilingual in English, French and Spanish, and has fluent understanding of German and Italian.

    In September 2012, Bloomberg Markets included Véron in its second annual 50 Most Influential list with reference to his early advocacy of European banking union.


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