Interference on the G20 Line?
by François Masquelier, Head of Corporate Finance and Treasury, RTL Group, and Honorary Chairman of the European Association of Corporate Treasurers
Over five years after the start of the crisis, there are still a large number of new financial regulations to come which, from 2014, will hit everyone – finance companies, insurance companies, investment funds and the ‘real economy’. 2014 will be the year of the new post-G20 regulations. Nobody would dare deny that there was a need to react and legislate. But on the other hand, many people dispute some of the measures and disagree with the traditional practice, when all is said and done, of hitting everyone without exception. But this edifice of regulations seems to be a sort of concoction of pieces plonked one on top of the other, with no logic or real coherent vision, like Numerobis’ Palace in Asterix and Cleopatra. In putting regulations together like this, the risk is that we end up with a shaky and fragile regulatory edifice. Several architects, major international regulators, are once again busy at work on the regulatory framework and on worldwide financial controls, without following any plans or having a vision of what the whole thing will look like when it is finished.
This wall of new regulations threatens to generate a real and profound risk of interference, inconsistencies and counter-productive effects. This ragbag of measures, sometimes contradictory and conflicting, may clash and collide with each other, creating unforeseen problems with baleful financial consequences and a pernicious effect on the real economy. In the science of optics, Thomas Young talked of constructive or destructive types of interference. The danger is in the second type of interference, which is to be feared. These types of interference could even have a domino effect that would be worse still. Surely no one would say that the regulators have got their act together. There are a number of divergences in the measures taken, both in substance and in form, and also in the timing of implementation. The constructive types of interference have an impact that is perhaps even worse, because they add to the waves to amplify the overall wave effect. The impact can then hit the affected entities harder, having an adverse effect on their business, most especially on financial institutions.
Like stones thrown into the water of a lake by children, regulations can cause ripples in the water that intersect and cancel each other out, or at other times amplify each other. The risk is that of missing the target (destructive types of interference) or amplifying the unintended impact (constructive types of interference). Do we need to reread the writings of an 18th century scientist to understand this risk of a cumulative effect or a cascade effect? For example, surely the new credit rating criteria proposed by S&P for corporates, EMIR, CRD IV, FTT and IFRS 13, when combined and put alongside each other, are about to make profound changes to hedging strategies by increasing the price of hedging (for longer-term hedging especially)? At the end of the day, it is often the end user – the corporate – that pays the additional cost generated much further up the line by all the regulatory requirements. The impact may therefore be direct or indirect, but it is always real.
The danger of over-correcting
When things have gone adrift, there is always a risk that the correction process will go too far. As with the pendulum effect, there is a danger of over-correcting a problem that you are trying to avoid by going the same distance in the opposite direction. Divergences at continental or national level, the lack of any long-term vision, the plethora of regulators and supervisors, the lack of coordination and harmonisation all threaten to create frictions, superimposed layers, inefficiencies and to have counter-productive effects. They sometimes threaten to contribute to making our businesses and our work more complex. If a solution boils down to making the situation more complex and not necessarily safer, is it really desirable? The superimposition of measures, often disjointed measures, by bodies that are competent but sometimes understaffed, can lead to a tsunami effect.
Which of the regulators can claim to have estimated the final financial impact of any of them? The reform of money market funds may perhaps have unsuspected effects for a whole industry which, if it partially disappears, will have an adverse effect on all types of short-term paper issued (for example ECP, EMTN, etc). World finance has become a sort of grand financial laboratory, in which the researchers (the regulators) are testing new types of alchemy or a universal financial panacea by mixing everything together all at once, without the scientific approach of changing only one variable at a time, and without even any predetermined experimentation plan. Let us hope that the result and mixture it produces will not be too explosive.
There was certainly a need to put right a situation that was unacceptable, to avert systemic risk. However, the way it has been done, the length of time taken and the lack of consultation all add an extra layer of complexity and bring with them the risk of interference of both types. Surely the G20 should have set itself time limits and co-ordinated the respective efforts with a true vision of the edifice it intended to build before it started on the foundations? If you want a solid and robust building, it would seem to us that cleverer preparation and tighter control of the work would be helpful if you expected to finish it on time. “More than five years, and that is all we end up with”, is what some treasurers are thinking. “Big deal!” We might say that financial regulation has bitten off more than it can chew.