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Saturday, Dec 21, 2002

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Regulatory waters run deep

S. Subramanyan

THE Joint Parliamentary Committee that went into the Rs 5,000-crore stock scam has addressed the issue of regulators and their role. In this context the recent public debates in the US and the UK on the role of regulators in the various corporate scandals offer valuable lessons.The recent resignation of the chief of the US Securities Exchange Commission should further invigorate the public debate on corporate sector and the role of its regulators post-Enron.

In the UK, a high-level committee under Lord Penrose is investigating the affairs of the 253-year-old insurer Equitable Life. It closed its new business in 2000 on the House of Lords ruling that it must meet in full the guarantees offered to holders of guaranteed pension plans. The ruling is expected to cost the insurer a hefty 15 billion.

This inquiry will, apart from examining whether the UK's newly established Financial Services Authority handled this issue as well as it was expected, also include examination of the roles of the UK Department of Trade and Industry and the Treasury, which oversaw Equitable's activities until the FSA came on the scene.

The Equitable Life developments will have valuable lessons for the life insurance sector in India especially in the current era of falling interest yield. Three recent domestic developments also need reference here.

First, the Government has not been able to decide who will regulate the pension sector though it is more than two years since the OASIS report (the S. A. Dave Committee report on Old Age Social and Income Security) was published. I

Second, the Tenth Plan Approach Paper has commented that the multiplicity of regulators stymies the financial sector. Third, in a different context, the insurance regulator has demanded greater financial freedom and has not liked being viewed as the `extended arm of the government'.

Academic contribution

It is said that academics have contributed more to the literature on regulatory structures and reforms than practitioners. A recent book by Helen A. Garten, Professor of Law of the Rutgers University School of Law (US Financial Regulation and the Level Playing Field; Palgrave 2001) is a rich and valuable addition to the bibliography on regulatory structure and performance.

Says Garten: "To non-US observers of the US financial scene, Americans must seem to be preoccupied with regulation," adding "US financial markets remain the most heavily regulated in the world and US scholars, legislators and even bankers continue to spend an enormous amount of time studying, analysing and debating the efficiency and legitimacy of their own regulatory process."

Although the financial pundits predict that the passage of comprehensive financial reforms legislation will rationalise the regulatory process, Garten cautions that these may be "leaving the regulatory waters as dangerous and as difficult to navigate as ever".

All not equal in regulator's eyes

Garten refers to the Travelers-Citibank merger case as to prove that "it is becoming increasingly apparent that, despite their crushing regulatory burden, many US financial institutions are able to do exactly what they please". She refers to the announcement in 1998 of the merger of Travelers Group and Citicorp to form Citigroup. At the relevant time merger of banks, securities firms and insurance companies were still forbidden although a legislation envisaging relaxation to barriers. Nevertheless the Federal Reserve approved the merger before the Congress adopted the legislation in 1999 to legalise cross-industry acquisitions.

Garten poses the question: "If Citicorp and Travelers could combine despite regulation, why does regulation, or in this case, deregulation, matter". The answer she offers is even more perplexing: "US financial regulation does not always treat similarly situated financial firms equally."

This case of merger would have prompted the Congress to expedite the legislation to permit such mergers, that this precedent does not mean that in future all regulation is vulnerable and other financial players may find regulatory barriers insurmountable and the regulators less helpful. This example can be appreciated well by us if we relate it to the developments in our financial sector. It is like our government enabling the HDFC and ICICI groups to consolidate their various operations under one entity even as regulatory reforms permitting such consolidation were to be put through!

Garten concedes that financial regulation is extraordinarily complex, deriving from multiple legal sources, both national and state, legislative and administrative. She views financial regulation as being in a transitory process frustrating any attempt to predict even short term view of what regulatory laws would be.

Regulatory maze

Garten also touches the issue of multiple regulators, one that is haunting us too. The Fed is not the only regulatory agency which has a say over who in the financial industry may diversify.

The regulatory process is complicated by the existence of multiple agencies that are independently staffed and funded but that share jurisdiction over financial markets and institutions. Garten observes that one way to avoid these pitfalls is to opt for a unitary regulatory system with a single agency exercising supervisory authority overall all financial markets.

As financial firms integrate, integrated regulation appears to make sense, allowing one regulator to be responsible for all diversified financial organisations. On a day-to-day basis, regulatory responsibilities might be allocated within the agency upon functional basis, but any resulting jurisdictional conflicts would be resolved internally, allowing regulatory overlap that seems to bedevil both entity and functional regulation of diversified financial firms.

Although Federal Reserve became the umbrella regulator of most financial holding companies, every competing regulatory agency from the Comptroller of Currency and the SEC to state banking and insurance supervisors, retained some regulatory role.

If our government decides in favour of a single super regulator instead of creating a new organisation, it would be much easier, practicable and less problematical to merge all the other financial sector regulators with the RBI. It is the oldest of all the regulators, and has a large pool of experts.

However, there is intense lobbying on who should be the pension regulator. Several times the ministerial group concerned had met, discussed the issue and postponed the final decision making. A news report had appeared in the media sometime back that SEBI would be the ideal entity to oversee the pension sector also because its incumbent chief is an insurance man. If this is a criterion for allocating regulatory functions of pensions to SEBI, would it not follow that it can be saddled with insurance oversight too!

Ever since the OASIS report was published, the issue of who should oversee this sector has received greater attention than other important issues concerning the pension sector. It is hoped that the government will take a decision in the larger interest of the pension sector without being influenced by the lobbying.

This discussion of sharing jurisdiction between between state and the federal power in the US may be viewed in the context of the situation obtaining in our cooperative banking sector. Much of the malaise that has afflicted this sector is due to this division of overseeing function between the RBI and the State governments through the Registrar of Cooperative Societies.

Our future model

A lot of discussion has taken place in the recent years on the regulatory maze that is obtaining in our country. Frequently we find strong editorials in the media commenting on the need for a unitary regulator.

Two years ago, the then RBI Deputy Governor, Dr Y. V. Reddy, analysed the pros and cons of each regulatory model in the Indian context and left the decision making to the political of the Centre. It is to be hoped that the Government will sooner or later usher in the much-needed reforms of the regulatory structure instead of tinkering with it from time to time.

(The author is former Executive Director, LIC.)

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