Dec. 20 (Bloomberg) -- Bank of England Governor Mervyn King said the Financial Policy Committee needs sufficient powers to ensure it can deal with risks to financial stability.
“The committee’s ability to take actions to mitigate systemic risks will hinge on the powers granted to it by Parliament,” King said in the forward to a research paper on macroprudential tools published by the central bank in London today. “Without the right instruments at its disposal, the committee will not be able to take prompt, effective action.”
The FPC, part of a regulatory overhaul by Britain’s government, is debating which tools it will need to promote financial stability once its powers are finally established. It said this month that risks to U.K. financial stability from the euro-area debt crisis have increased and “stronger action” is needed to make banks more resilient to potential shocks.
King said today that the absence of a proper authority to deal with potential risks was a “significant contributory factor to the present financial crisis.” He said the FPC has an “important job to do” and will “fill that void.”
In the paper, Bank of England and Financial Services Authority officials examined 11 possible macroprudential tools for the FPC, covering three areas: the balance sheets of financial institutions, terms and conditions of some transactions and market structures. The central bank is seeking feedback on the proposals and will make recommendations to the U.K. Treasury after the March 16 meeting of the FPC.
The officials said that a “key hurdle” to implementing new tools is that the power of the regulators “may be constrained by European Union law,” such as the draft Capital Requirements Regulation, which it says is a “maximum harmonizing regulation.”
“Maximum harmonization of regulatory standards restricts the discretion for national authorities to tighten regulatory levers to guard against systemic risk,” they said. While common minimum standards will help avoid a “race to the bottom” in international rules, they said the rationale for maximum standards “is not clear from a prudential perspective.”
Among the specific instruments the officials looked at were countercyclical capital buffers and maximum leverage ratios. On the former, they said advantages are their simplicity and ability to “moderate the cycle,” while disadvantages are “crudeness” and potential for ineffectiveness in some cases.
The officials also examined margining requirements, which they said could have the positive impact of enhancing the resilience of funding markets. Still, such tools may be prone to international arbitrage, the officials said.
The FPC will have the power to make recommendations to the Prudential Regulation Authority and the Financial Conduct Authority, as well as direct them to adjust specific macroprudential tools where necessary.
“Recommendations are likely to be the most suitable course of action,” the paper said. “But the power to direct the PRA or the FCA to make policy changes is a necessary complement to recommendation powers. Directions could be particularly valuable in circumstances in which action is required urgently.”
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