The global financial crisis highlighted the interconnectedness of international financial markets and the risk of contagion it posed. The crisis also emphasized the importance of supranational regulation and regulatory cooperation to help address and ameliorate that risk.
Yet, although capital flows are global, securities regulation is not. As a 2019 report by the International Organization of Securities Commissions (IOSCO) notes, the regulatory challenges, which were revealed so starkly during the global financial crisis, have by no means dissipated over the last decade. According to IOSCO, lack of international standards, or differences in the way jurisdictions implement such standards, can lead to regulatory-driven market fragmentation. These were central issues at a major conference that was held in Luxembourg in late 2018 on possible roles that IOSCO could play in enhancing cross-border regulatory cooperation.
My article, “Regulatory Cooperation in Securities Market Regulation: Perspectives from Australia,” which was recently published in the European Company and Financial Law Review (ECFR) as part of the Luxembourg conference proceedings, considers a range of cooperative techniques designed to achieve greater international regulatory harmonization and more effective cross-border financial market supervision.
The article focuses on three major cooperative techniques: (i) transgovernmental networks of financial regulators (“transgovernmental networks”); (ii) complex multilateral arrangements; and (iii) mutual recognition agreements, analyzing the benefits and downsides of each of these regulatory mechanisms.
The first, transgovernmental networks, became highly visible during the global financial crisis, although academic interest in their operation dates back to at least the 1990s. These supra-national cooperative regulatory networks include IOSCO, as well as bodies such as the Basel Committee on Banking Supervision (Basel Committee), the OECD and the Financial Stability Board. This form of regulation provides a strong contrast to the influential “law matters” regulatory paradigm, which relied upon horizontal regulatory imitation at a national level.
Cooperative networks provide numerous advantages, including minimization of regulatory arbitrage and the ability to tackle global problems. Successful initiatives of the Basel Committee and IOSCO have given luster to such regulatory networks, leading some commentators to regard them as “transformational.” However, as my article notes, there are many challenges to effective globally-coordinated regulation, including the risk of regulatory overlap, inconsistency across agencies, and nationalist agendas. Although transgovernmental networks are generally presented as exemplars of cooperative rule-making, powerful states may exercise disproportionate influence or act coercively in determining the applicable rules. Also, regulatory harmonization can be undermined by divergent translation and enforcement of rules at a national level.
The European financial market framework, which has been described as a “regulatory juggernaut,” exemplifies the second form of regulatory cooperation, complex multilateral arrangements. Arrangements of this kind represent a “maximum harmonization” regulatory approach, supported by strong supranational institutions that have unique powers to make, monitor, and enforce common rules. In spite of Europe’s commitment to this form of cooperative regulation, the global financial crisis highlighted weaknesses in the ability of EU institutions to monitor risk and compliance effectively. European-style complex multilateral arrangements necessarily involve high levels of intervention into member states’ regulatory regimes. Not only does this result in diminished national autonomy, it can create local political backlash of the kind witnessed in relation to Brexit.
Mutual recognition agreements constitute the third form of cooperative regulatory technique discussed in the article. Bilateral (and regional) mutual recognition agreements, in which two or more states recognize the adequacy, and equivalence, of the other’s regulation and supervision, have become an important, and growing, pluralist form of regulatory cooperation.
The article discusses some of the interesting ways in which mutual recognition agreements differ from both transgovernmental networks and complex multilateral arrangements. For example, they are a simpler and cheaper technique for facilitating cross-border market access than complex multilateral arrangements, which depend on powerful, and expensive, supranational institutions. Furthermore, because mutual recognition agreements are voluntary and selective, they preserve national regulatory autonomy to a far greater degree than the other two harmonization techniques. This feature of mutual recognition agreements is likely to become even more significant in an era of growing nationalism, isolationism, and protectionism.
The article also provides a detailed analysis of a high-profile cross-border supervisory experiment, the U.S.-Australian Mutual Recognition Agreement of 2008. This agreement, which was signed by the Securities and Exchange Commission (SEC) and the Australian Securities and Exchange Commission (ASIC), was the first of its kind for the SEC, which had traditionally expressed a strong preference for the concept of “universal regulatory convergence” over mutual recognition. This mutual recognition agreement provided a framework under which ASIC and the SEC agreed to consider exemptions permitting U.S. and Australian stock exchanges and broker-dealers to operate in both jurisdictions without dual regulation, thereby reducing barriers and promoting a “freer flow of capital,” with increased investment opportunities. The agreement represented a clear attitudinal change for the SEC, by focusing not on the risks posed to U.S. investors by deference to non-U.S, securities law, but rather on the advantages that a mutual recognition agreement of this kind could provide U.S. investors, wishing to gain access to foreign investment opportunities and increased portfolio diversification.
Although the U.S.-Australian Mutual Recognition Agreement was designed as a trial program, which would provide the SEC with a blueprint for a much more extensive roll-out of similar cooperative arrangements, this did not occur. The agreement stalled soon after its execution, due to the onset of the global financial crisis, and never became operative in practice. Nonetheless, ASIC subsequently entered into cooperative arrangements and Memoranda of Understanding (MoU) with regulators in more than 50 jurisdictions. An increasing number of these MoUs are in the fintech and other innovation areas.
Finally, my article discusses a recent Asia-Pacific regulatory initiative, the Asia Region Funds Passport, which was officially launched on February 1, 2019. Goals listed in the Memorandum of Cooperation underpinning the Passport include providing investors in participating jurisdictions with a greater range of investment opportunities and deepening capital markets in the region to attract finance and foster regional growth. Signatories to the Memorandum of Cooperation include Australia, Japan, Korea, New Zealand, and Thailand. As IOSCO has noted, it is, as yet, too soon to tell how successful the Asia Region Funds Passport will be in reducing market fragmentation in the Asia-Pacific region and achieving its economic goals.
Regulatory cooperation has, to date, tended to focus on financial risks. In 2012, however, David Wright, then-secretary general of IOSCO, suggested that the global regulatory agenda should be broadened to encompass non-financial risks and “the crucial need to change behavior, ethics and incentives in firms.” The increasing international focus on corporate culture, ethics, and ESG issues suggests that these comments were prescient and indicative of an important future direction for supranational regulatory cooperation.
This post comes to us from Jennifer G. Hill, the Bob Baxt AO Chair in Corporate and Commercial Law and director of the Centre for Commercial Law & Regulatory Studies in the Monash University Faculty of Law, Australia, and a research member of the European Corporate Governance Institute (ECGI). It is based on her recent article, “Regulatory Cooperation in Securities Market Regulation: Perspectives from Australia,” available here. A version of this post appeared on the Oxford Business Law Blog, here.