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Future of Financial Regulation: ACCA calls for principles-based approach to avoiding future financial shocks

Financial regulation across major capital markets must be overhauled only after a comprehensive review of the factors which contributed to the global financial crisis, says ACCA (the Association of Chartered Certified Accountants) in an international policy paper The Future of Financial Regulation.

The report urges global authorities not to rush to introduce heavy-handed regulation. Instead, it calls for joined-up action involving governments, regulators, companies and other stakeholders to ensure lasting improvements which will address both the current problems and anticipate future threats to the integrity of the financial systems and broader economy.

Helen Brand, chief executive of ACCA, says: "We have spoken to chief financial officers, auditors and financial regulators from all the major capital markets and have produced a set of recommendations and principles which we hope will provide authorities across the world with a blueprint for regulation. It is important that governments co-ordinate their approach to restore confidence in the markets, though we are clear that this does not equate to a 'one-size fits all' policy.

"It is vital that the apparent failure of 'light-touch' regulation does not become synonymous with a victory for rules over principles. The most important issue is not so much the description of the system, but that all parties understand and respect the purpose of regulation and that effective enforcement takes place. And those being regulated - banks and other businesses - have a crucial role to play in establishing a workable system."

Amongst the report's conclusions are:

• Competition: Governments and national authorities should regard the promotion of healthy competition in the market place as a top priority. Policy must be geared to preventing the creation of institutions which are 'too big to fail'. This is anathema to effective regulation. Competition of ideas also benefits regulators and the welcome sharing of knowledge and best practice between countries should not extend to uniform requirements being adopted regardless of local market conditions.
• Systemic approach: the regulatory system must take wider macro-economic factors into account and this should complement more effective monitoring of capital and leverage ratios of individual institutions. All relevant entities should be brought into the regulatory net. It is also crucial that regulators have sufficient numbers of staff with first-hand knowledge of their industries.
• Governance: Financial institutions, encouraged by regulators, should adopt ethics-based corporate cultures on issues like remuneration which aim to ensure they act in the long-term interests of their stakeholders. The weaknesses in corporate governance and risk management practices shown up by the crisis must be addressed, with a specific review of whether the presence of non-executive directors on a company board remains an effective means of exerting supervision over the executive in large and complex institutions.
• Accountability: The accountancy profession must consider ways of making the processes of financial reporting and auditing more useful to shareholders. Enhancing the quality of reporting on risk is key here. But accounts must continue to be geared principally to shareholders rather than regulators.

Helen Brand concludes: "ACCA is encouraged that many of the ideas put forward in our paper coincide with recommendations being made elsewhere - the recent US Treasury White Paper Financial Regulatory Reform, published in 17 June 2009, stresses key causes of the crisis - the failure of risk management systems to keep pace with the complexity of new financial products and gaps and weaknesses in the supervision of firms by regulatory authorities. The US proposals recognise the need for a regulatory system which is simpler but more effectively enforced, and which is also able to adapt and evolve with changes in the financial market."

Vytautas Kaminskas, FCCA from Lithuania, Europe representative in the ACCA International Assembly, also provided comment on the policy paper: "I think the policy paper has many relevant points although the points are not radical enough to facilitate appropriate actions. I support the principle that the market players should be subject to reasonable competition and regulation. There should be no support for public or market expectation that an entity is too big to allow it to fail. Basically, the larger the entity is the larger capital, reserves and other requirements must be set. However, recent developments were opposite, e.g. large financial institutions anticipated to need less capital after implementation of internal models allowed by Basel 2. ACCA's paper defends fair value and principles based accounting, but does not criticise ad hoc and back-date amendments of IFRS and US GAAP which distorted the regulation and competition."

The text of policy paper The Future of Financial Regulation  is available online.

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