US president Barack Obama, who in January took up office in the midst of arguably the worst financial crisis since the early 1930s, has said in a speech this week he intends to put into force a wide-ranging reform of how financial services are regulated, transferring more oversight powers to the US Federal Reserve. His administration and lawmakers in Washington are also trying to force so-called tax havens such as Switzerland and the Cayman Islands to disclose more information to thereby catch tax evaders. European Union policymakers from France, the UK and Germany have, meanwhile, been meeting in Brussels this week on how to strengthen controls.

In the UK, the Financial Services Authority, the regulatory body set up by the present UK government in 1997, has also called for tighter oversight of financial firms, including the idea of setting more stringent capital reserves. Already, in reaction to the crisis, governments in a number of countries, such as the UK, have widened depositor protection.

But as industry groups stress, there is always a risk that regulations designed to deal with a current or recent problems serve only to build up unintended issues in the future, as well as drive some firms out of business that did not deserve such a fate. 

In the case of firms that do not take deposits, such as private client stockbrokers and asset managers, there is a danger of a one-size-fits-all regulatory crackdown, according to the Association of Private Client Stockbrokers and Investment Managers.

“Regulators must resist creating new regulations which spill over into other, quite separate, financial sectors,” Dirk Paterson, spokesman for the trade group, told WealthBriefing.

Other groups agree. Earlier this week, Jarkko Syyrilä, director of international relations at the Investment Management Association, warned that the European Union could drive hedge funds and related businesses, for example, out of the UK if it adopts a heavy-handed approach.

And the British Bankers’ Association, which represents a total of 203 banks, has recently warned of the danger of UK regulators pressing ahead with new rules without first considering how this might be affected by international regulations.

“The banking industry is fully supportive of the need to change and overhaul the regulatory framework. But we do not believe the UK can plough ahead with change all on its own without thought to how changes here will work with plans afoot elsewhere. Banking is a global business and – like a game of chess – moving one piece anywhere on the board will influence the game somewhere else,” BBA chief executive Angela Knight has said.

Getting the balance right

Setting rules to avoid undue financial risk-taking and to protect depositors is a complex issue. The financial industry is mindful of how existing rules can, arguably, deal with some problems only to give rise to new, unintended effects. For example, the US Sarbanes-Oxley accounting regulations, which became law earlier in the decade, have been blamed for a relative dearth of US initial public offerings and for encouraging US firms to go private and list offshore in places such as the UK’s Alternative Investment Market.

In another example, the Basel II capital adequacy standards, designed to guide how much capital banks must set aside to guard against specific risks, have also proven controversial because they employ mark-to-market tests of a bank’s financial strength, which can paradoxically cause a bank to set aside too little money in a boom and too much capital during a downturn, which can aggravate market cycles rather than calm them.

The ongoing rhetorical and legal assault on tax havens, meanwhile, is also a worry to financial firms concerned about a rising cost burden of compliance. APCIMS, for example, has warned that a focus on offshore financial centres is a distraction from the underlying causes of the credit crisis and likely to foster protectionism.

APCIMS has also warned that the US Qualified Intermediaries regime, which is designed to prevent US expats avoiding tax, imposes a high compliance cost on UK firms, among others.

In his speech on 16 June, Mr Obama said his administration would make changes to financial regulation “on a scale not seen since the reforms that followed the Great Depression”.

“I am proposing that the Federal Reserve be granted new authority - and accountability - for regulating bank holding companies and other large firms that pose a risk to the entire economy in the event of failure. We'll also raise the standard to which these kinds of firms are held. If you can pose a great risk, that means you have a great responsibility. We will require these firms to meet stronger capital and liquidity requirements so that they're more resilient and less likely to fail,” Mr Obama said.

Mr Obama’s suggested transfer of regulatory powers to the Fed may prove unwise because that institution is ultimately owned by its shareholders, consisting of the very banks that the Fed is to regulate, said the private client stockbroking and wealth management firm, Charles Stanley.

“In what looks like a classic case of the fox being handed the keys to the hen coop, the proposals, as envisaged, would literally hand control of financial regulation over to the very banks that are supposed to be being regulated,” Jeremy Batstone-Carr, director of private client research, said in a note.