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WhyFSLRCwantsabiggerroleforFSDC
AnuradhaGuru,PrachiMishraPostedonline:Wednesday,Apr24,2013at0000hrs
Thoughthecommissionhassuggestedunificationoffinancialsectorregulators,ithasfallen
shortofrecommendingasingleunifiedregulator,envisagingRBItocontinuetobethe
bankingsectorregulator
TheFinancialSectorLegislativeReformsCommission(FSLRC),initsrecentlysubmitted
report,recognisessystemicriskoversightasakeypillaroffinancialregulation.Broadly
speaking,systemicriskisabroadbasedbreakdowninthefunctioningofthefinancial
system,whichisnormallyrealised,expost,byalargenumberoffailuresoffinancial
institutionsorofafewhighlyintegratedfinancialinstitutions,withpotentiallyserious
consequencesfortherealeconomy.Theconceptofsystemicriskstemsprimarilyfrominter
linkagesacrossdifferentfinancialinstitutionsandtheinterconnectednessofthefinancial
systemwithotherpartsoftheeconomy.Theglobalfinancialcrisishasunderscoredtheneed
forunderstandingsystemicriskanditstwowayrelationshipwithrealactivity.
Thecommissionenvisagesanewregulatoryarchitecturefor
monitoringofsystemicriskintheformofacouncilofregulatory
agenciesforIndia.Importantly,itenvisagesplacingtheexisting
bodyinsidetheministryoffinanceFinancialStabilityand
DevelopmentCouncil(FSDC)onamuchsounderlegalfooting,
withwelldefinedpowersandresponsibilitiesintheareaof
systemicriskoversight.Itwillbeastatutorybody,andwillhave
operationalandfinancialautonomy.FSDC(withaninhouse
FinancialDataManagementCentre)willbethesingleagency
responsibleforaggregatingdatafromdifferentregulatorsand
maintainingitinelectronicform.
Inadditiontobeingthedatatsar,othertasksassignedtoFSDCwillincluderesearchand
analysisidentificationanddesignationofsystemicallyimportantfinancialinstitutions(SIFIs),
includingconglomeratesformulationandimplementationofsystemwidemeasuresfor
mitigationofsystemicrisksuchascountercyclicalcapitalbuffersinterregulatoryagency
coordinationandcrisismanagement.Whilethefirstfourtaskswillbeexclusivelyassignedto
FSDC,thelastonewouldbecarriedoutunderthesupervisionoftheministryoffinance.
TheFSLRCrecommendationfordevelopingawellarticulatedframeworkforsystemicrisk
oversightisamajorsteptowardsmodernisationofregulatoryarchitectureoftheIndian
financialsectorandbringingitinlinewiththeeverevolvingglobalenvironment.Thefinancial
worldisbecomingincreasinglycomplex.Althoughfinancialcriseshavebeenpervasive
throughouthistory,itisnowwelldocumentedthattheirfrequencyandseverityinrecent
decadeshasincreaseddramatically.Therefore,theneedforsystematicthinkingonpolicies
tomitigatesystemicriskshasbecomealmostimperative.TheFSLRCneedstobelaudedfor
emphasisingtheneedforthinkingseriouslyonthisfrontinthecontextofIndia.Constructing
acentraliseddatabaseencompassingallfinancialsectoractivitiesanditsfrequentmonitoring
cangoalongwaytowardsefficientoversightandcrisisprevention.
Whythisparticularregulatorystructure?Inordertogetaperspectiveonthis,itmightbe
usefultolookatinternationalpractices.Internationally,theinstitutionallandscapeforensuring
financialstabilityofaneconomyhasitselfundergonemanychanges.Mostcentralbanks
havebeentraditionallyperformingthefunctionofsystemicriskoversight,evenwithoutbeing
explicitlymandatedtodosoincertainjurisdictions.Afterthefinancialcrisisof200809,the
needforastrongsystemwidefinancialstabilityregulator,whichcouldmakeanindependent
andobjectiveassessmentofthefinancialsituation,wasfeltandthisusheredinaneraof
reformsinthisarea.Threepossiblemodesoffinancialstabilityregulationhaveevolved(see

table).
Thefirstisacompletelyconsolidatedregulatorforfinancialstability,suchasinSingapore
whereSingaporescentralbank,theMonetaryAuthorityofSingapore,hastheauthorityto
regulatethebanking,securities,futuresandinsuranceindustries.Thesecondmodeis
throughthecentralbankofacountryplayingtheroleoffinancialstabilityregulatorwith
macroprudentialsupervisoryandregulatorypowers,suchasintheUK,whichhasrecently
establishedaFinancialPolicyCommitteelocatedwithintheBankofEnglandentrustedwith
thetaskofsystemicoversight.Athirdwayfinancialstabilityregulatoryframeworkis
organisedisthroughacoordinationmechanismintheformofacouncilcomprisingof
financeministryandfinancialsectorregulators,servingascoordinatorforregulatoryand
stabilityissuesforthefinancialsectorasawhole,suchasinAustralia,theUSandtheEU.
Thiscouncilstructureisstatutoryinsomecountriesandnonstatutoryinothers.These
modelsforafinancialstabilitystructurearestillevolvingandwhichisbetterthantheotherwill
betestedovertime.
TheFSLRChasrecommendedthisthirdmodelforIndiawithFSDCtakingtheroleofthe
council.Thoughthecommissionhasmadeamajorrecommendationonunificationof
financialsectorregulators,recommendingmergingSEBI,FMC,IRDAandPFRDAintoanew
unifiedagency,ithasfallenshortofsuggestingasingleunifiedregulator,envisagingRBIto
continuetobethebankingsectorregulator.
Inthiscontext,onecoulddebateastowhycantRBIperformtheroleofacoordinating
agency?Indeed,theFSLRCreportalsomentionsthatithadextensiveconsultationswith
RBI,whichexpressedapreferenceforbeinginchargeofsystemicriskoversight.Thereare
bothadvantagesaswellasdisadvantagesofthecentralbankbeingthekeeperoffinancial
stability.TheadvantagecouldbeperhapsthatRBIhasalargeresearchdepartment,which
mayalreadybeconductingsomeoftheresearchandanalysisenvisagedfortheFSDC,so
thattappingintotheseresourcesmaybeaneasierandfasterwayofgettingthingsmoving
onthisfront.However,givenanallencompassingrolearticulatedforthecounciloffinancial
regulators,itisimperativethatitbeautonomousandindependentofanyspecificregulator
andserveprimarilyasacoordinatingagencywithclearlydefinedtaskofmonitoringtheentire
financialsystem.ConsideringthatRBIisenvisionedtocontinuetoperformtheroleof
bankingsectoroversight,itmightnotbebestsuitedtoserveasanautonomousandsingle
interfaceforstabilityoftheentirefinancialsystem.
Theideaofanoverarchingagencytomonitortheentirefinancialsystemisappealing,butat
thesametimeveryambitious.ThetransitionfromthecurrentFSDC,whichisasmallnon
statutorybodyinsidetheministryoffinance,intoafullfledgedstatutorycoordinatingagency,
whichisthewarehouseforallfinancialsectordata,doesconstantmonitoringandconducts
rigorousresearchinseveralareas,willtrulybeadauntingtask.Theremightberesistance
fromdifferentregulatorstoreporttosuchacouncilsothattheprocessofconsensusbuilding
forimplementationoftheserecommendationsmayactuallybealongwindedone.
Anotherplausiblereasonwhythereportmayinpracticetakeconsiderabletimetoimplement
isthatitsrecommendationsareratherqualitative.Thechapteronsystemicriskisfullof
jargonslikesystemicrisk,microprudentialregulators,regulatoryarbitrage,SIFIs,
countercyclicalbuffers,etc.Effectivemonitoringandoversightofsystemicriskwillfirst
requireprecisedefinitionsandquantificationofeachofthesejargons,whichwillinvolve
carefulthoughtandrigorousanalysis.Inthiscontext,theFSLRCforeseesanewroleforthe
FSDCwithatechnicallysophisticatedteamcapableofdoingintensivedataanalysisand
researchonahighfrequencybasis.Buildingsuchahighlyqualifiedteamofprofessionalsto
conductseriousanalysisofsystemicriskmightbethemostformidablechallenge.
AnuradhaGuruisanofficeroftheIndianEconomicServiceandPrachiMishraisasenior
economistintheOfficeoftheChiefEconomicAdvisorintheministryoffinance.Viewsare
personal