LONDON (Reuters) - Regulators in countries hosting global banks should be able to dictate the laws under which those subsidiaries and branches operate rather than depending on regulation of parent companies, a new study on how to respond to banking crisis said Friday.
The report by the Warwick Commission on International Financial Reform -- a UK-based grouping of economists, academics and lawyers -- outlined five main recommendations for governments looking to prevent a repeat of the near implosion of western banking systems over the past two years.
It said governments' previous pursuit of a "level playing field" for financial firms disproportionately benefited large global banks and processes and this had contributed to a "too big to fail" problem.
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"We need an unlevel playing field between countries as a result of the policy responses to economic cycles that are often less synchronised than they appear," the report said.
"We need to tilt the playing field within countries to reflect the unlevel capacity of financial institutions for different types of risk and to help risks flow to where they are best matched by risk capacity."
To help to that, it said greater emphasis should be placed on host country regulation within a broader system of international cooperation.
This, it argued, would both help to create more resilient financial institutions and also allow greater freedom for emerging market economies to deal with difficult macro-economic issues, such as volatile capital flows.
"Host country regulators must be able to require foreign and domestic banks alike to keep local capital against local risks," the report said.
"Accountable global institutions should coordinate host country regulations, share information and lessons in order to improve regulatory effectiveness and limit regulatory arbitrage, and regulate market infrastructure for global markets such as single clearing and settlement houses."
In a foreword to the report, Adair Turner, Chairman of the UK's Financial Services Authority -- which has advocated more host country regulation since the collapse of the UK arms of Icelandic banks last year -- highlighted this point.
"The Report...puts down a powerful challenge to the current primary focus on "home country" regulation and supervision," Turner wrote.
FIVE KEY POINTS
The report's other recommendations included:
1) More counter-cyclical regulation -- where capital requirements, leverage ratios, maximum loan-to-value ratios should be tightened in upswings and loosened in recessions
2) Great account to be taken by regulators of firms' abilities to absorb risk -- judged by scale of mismatch between their liabilities and assets. "Risk taking must be matched to risk capacity for the financial system."
3) Regulators must have flexibility to apply tighter regulatory requirements on systemic institutions, instruments and markets. Regular system-wide stress tests should help.
4) Incentives for the financial sector and its firms to grow in size and influence while concentrating on short-term activity must be offset through measures such as additional capital requirements for large institutions and transaction taxes.
For more details on the Warwick Commission and its report:
http://www2.warwick.ac.uk/research/warwickcommission/
(Editing by Andy Bruce)
