The global financial system needs better supervision, but this should not come at the expense of local regulatory expertise and participation in decisions that affect individual countries.

The global financial system has endured turmoil over the past two years. Of course, this has not been the first shock to the system, but this one has several powerful new characteristics. It is global, it has endangered the solvency of important financial institutions, and it cannot be resolved by purely political means. The crisis may be political in its background and possible consequences, financial in its manifestation, but what makes it so powerful and significant is the impact on the real economy.

EU decision-makers are working towards addressing the new economic reality with an integrated regulatory design that includes three new EU-level agencies to complement the work of local financial supervision at the member-country level. These agencies would intervene in a crisis, co-ordinate among member-country regulators, and create regulatory standards. Some of their decisions would be binding for member countries and, ultimately, for specific financial firms. The firm-specific regulatory requirements would affect transnational financial enterprises, which control more than half of the national markets in nine central and eastern EU countries.

Surprisingly, the new regulatory framework proposals focus on the architecture of their operations, but not on financial responsibility. The emerging framework appears to suggest that EU-level agencies would be supported fiscally at the member-country level. As a result, a country such as Poland, which opened its market to multinational financials in line with EU principles, could potentially be held financially responsible for transgressions by those firms even outside its jurisdiction. But it would be left without supervisory power to regulate those same multinational firms.

What should be done

This crisis has revealed flaws in the macrofinancial supervision system. In the US and Europe, financial institutions have apparently skilfully gamed the fractured prudential supervision system to assume levels of risk that were not fully recognised by the authorities. This global risk-taking could be addressed better if various regulatory authorities were better and faster at sharing their information and co-ordinating their prudential supervision and macroeconomic policies. We hope that the European Systemic Risk Board will give EU-member countries continuous access to information concerning financial and economic developments throughout the EU.

We also believe it is important that national regulators and transnational regulators work together to address the challenges created by the prevalence of global financial institutions in this new global economy. The tense days of late 2008 showed that in a moment of crisis, co-ordination among member countries of the EU was lacking at best.

In some instances, member countries chose contradictory paths to resolve the same problem, or related problems.

Of course, the urgency of a problem makes action more likely. As the old Polish proverb proclaims: "If it were not for the last minute, nothing would ever get done." Co-ordination in setting up equitable rules for a regulatory intervention is very desirable, to prevent gaming of the system by the market participants and possibly by member countries as well.

What not to do

Nevertheless, we are concerned about the possibility of EU regulatory integration achieved at the expense of individual member countries' interests. Clearly, the supervision of transnational financial firms should be improved, but their national operations are also firms subject to local jurisdiction and supervision. The solvency problems of transnational conglomerates during this crisis usually originated at a headquarters level, and no local subsidiary has brought down any giant multinational parent within the EU.

In view of this reality, the proposal to take away capital supervision (such as Basel II requirements) from national prudential supervisors is troubling and may turn out to be an error. Local authorities should be encouraged to use their knowledge and experience to address solvency issues within their jurisdictions. Member countries have widely differing histories and banking cultures, and contributions from national authorities to improve solvency supervision should be welcomed.

The global economy needs the global co-ordination of supervisory authorities, but it also needs the global participation of all individual market participants, business cultures, local firms and local supervisory activities. It is unreasonable to expect that complete information will easily flow to centralised authorities. As the Polish philosopher Tadeusz Kotarbinski once pointed out: "The key problem with radical centralism is that it is always an illusion."

We believe that Poland is uniquely qualified to voice an opinion in this crucial issue concerning the European financial system. Poland was the only EU country that did not enter a recession during this crisis, and no financial institution in Poland required any state support to remain solvent. We have worked very hard to achieve this financial stability after emerging from the ravages of an unbalanced system of complete centralisation under communism, and we believe that we have an important story to tell.

Stanislaw Kluza, chairman of the Polish Financial Supervision Authority, and Krzysztof Ostaszewski, professor and actuarial programme director, Illinois State University

PLEASE ENTER YOUR DETAILS TO WATCH THIS VIDEO

All fields are mandatory

The Banker is a service from the Financial Times. The Financial Times Ltd takes your privacy seriously.

Choose how you want us to contact you.

Invites and Offers from The Banker

Receive exclusive personalised event invitations, carefully curated offers and promotions from The Banker



For more information about how we use your data, please refer to our privacy and cookie policies.

Terms and conditions

Join our community

The Banker on Twitter