October 16, 2014
Interview with Dr. Michel Maila PRESIDENT AND CEO OF THE GLOBAL RISK INSTITUTE (GRI)
A Discussion on Lessons Learned from the Global Financial Crisis, How to Manage Systemic Risk,
the Role of Securities Regulators in Risk Management, the Preparedness of Today's Financial
System, the Need for a National Securities Regulator and more…
By Usman M. Sheikh (Bennett Jones LLP)
Since June 2012, Dr. Michel Maila has served as President and CEO of the Global Risk Institute in
Financial Services (GRI), which develops applied research in financial risk and serves as a forum for
dialogue between financial sector practitioners, policy‐makers, regulators and academics. The Institute
was created in the aftermath of the global financial crisis as a joint partnership by the governments of Canada and
Ontario and 17 leading firms in Canada's financial services sector. From 2007 to 2010, during the peak of the financial
crisis, Dr. Maila served as Vice President, Risk Management at the Washington‐based private‐sector arm of the World
Bank, the International Finance Corporation (IFC). Dr. Maila has over 30 years of Canadian and international finance
experience, including as Executive Vice‐President and Head of Corporate Risk Management at BMO Financial Group.
On Lessons Learned from the
Global Financial Crisis…
US Dr. Maila, it is a pleasure to meet you, Sir. I
wanted to begin by reading to you an excerpt from a
It was prepared in 2009, right in the midst of the
global financial crisis – by the de Larosière High
Level Group for the European Commission:
"Since July 2007, the world has faced, and
continues to face, the most serious and
disruptive financial crisis since 1929.
Originating primarily in the United States, the
crisis is now global, deep, even worsening. It
has proven to be highly contagious and
complex, rippling rapidly through different
market segments and countries. Many parts of
the financial system remain under severe
strain. Some markets and institutions have
stopped functioning. This, in turn, has- 2 -
negatively affected the real economy.
Financial markets depend on trust. But much
of this trust has evaporated."
The world has just gone through one of the most
severe financial crises since the Great Depression.
My first question for you: What lessons did we learn
from this crisis and how do governments and
regulators restore confidence in the markets?
MM To keep the answer
brief, I would first say that
we have learned fewer
lessons than we should
There are a large number
of lessons that should have
been learned and have not,
even six years afterwards.
Let me highlight two or
three for you.
One is the importance of
understanding the financial
system in greater detail.
We thought we knew
about the financial system
and how it worked. I will
give you an analogy around
aviation safety. You
wouldn’t let planes fly the
way they fly these days if
you didn’t have a well‐
designed air traffic control system. Unfortunately,
we collectively didn’t do that. We let the planes fly
and then were surprised about the accidents, which
have been recurring since the '90s in greater severity
and frequency. So that’s the first thing –
understanding the financial system.
The second one is watching for lack of transparency
in financial markets. In this case, it will be of interest
to your readers that the epicenter of the crisis
originated in the asset‐backed and, specifically, the
mortgage‐backed securities market. Some of the
public policymakers in the U.S. thought it wasn’t a
big deal because the subprime portion of the
mortgage‐backed securities was a small proportion
of the total. Unfortunately, it has very little to do
with size. People tend to believe that small causes
can only have small effects, so the big lesson we
learned was that small causes can produce very
large effects. So, 5% subprime securities led to
losses of trillions of dollars.
That has to do with the third lesson we’ve learned –
to track contagion effects and systemic risk from an
overall perspective. Many regulators and many
industry participants in financial services have been
looking at each tree thinking that if they prune all of
the trees, the forest will take care of itself – but it
doesn't work that way. We
haven’t worried about the
forest. And it doesn’t follow
that if all the trees are in good
shape, the forest will
necessarily be so. So that’s
the other main lesson.
US I wanted to talk to you
specifically about risk.
Addressing risk and, in
particular, systemic risk is
now at the forefront of
concern for governments,
regulators and financial
institutions across all sectors.
We’ve seen new legislation
enacted (e.g., Dodd‐Frank),
new committees formed (e.g.,
the FSCO, the European Systemic Risk Board) and
new sayings and acronyms that have developed
("too big to fail", "too interconnected to fail" and
What is systemic risk and how can we detect and
mitigate such risks?
MM Systemic risk refers to the contagion effects
that can produce cascading failures throughout the
So, in securities markets, we've seen an example of
the cascading effects originating, as I mentioned, in
the small subprime portion of the mortgage‐backed
securities. The contagion and cascading effects
necessarilybeso."- 3 -
through this intermediation chain led to huge
effects at the system level.
So, it highlights the need to understand how the
financial system works – not just the banking system
or the securities market; the regulated or the
unregulated – but all financial intermediaries.
Part of what we’re doing at GRI is contributing to an
understanding of systemic risk – it's one of our main
research efforts. We're devoting a substantial
amount of resources to that effect. And unless we
make progress in understanding what a safe, robust
financial system looks like, I’m afraid we’ll continue
to be prone to systemic risk in a material way.
There is a surplus of acronyms and possibly
regulatory plans but there is a paucity of actual fact
and evidence��based research on how the financial
system works. We are hoping to be part of
remedying this. One of our major initiatives has
been to launch the Systemic Risk Hub, that you can
access from the GRI website, that gathers research
from around the world. We have dozens of people
working in collaboration with GRI on this, but we are
in the early days. It’s like, as I said, figuring out an air
traffic control system after a spate of accidents. We
have a lot of catching up to do.
On the Role of Securities
Regulators in Risk Management
US I want to ask you about the role of securities
regulators in this broader effort to manage risk.
Until the global financial crisis, securities regulators
did not really see themselves as having a major role
to play in managing or mitigating broader financial
risk. The field seemed to be largely occupied by
In your view, why were securities regulators not
actively involved? And, in your opinion, how
important is their role in managing such issues as
MM I think the primary cause cannot be laid in the
camp of the securities regulators because, by
definition, their mandate was to focus on specific
You have to go to the level of design of an oversight
system or a regulatory system. Unfortunately, in
many countries this has evolved in a fragmented
way, which is precisely how systemic risks evolves. If
people look at their silos (e.g., securities regulators –
equity markets, bond markets, derivative markets),
who is minding the forest? Who is minding the big
Systemic risk management and oversight is not
consistent with the model of fragmented
regulations and oversight. So the solution over time
has to be doing both.
You need to have regulators looking at specific
products and markets – making sure financial
market quality is there (and we know that's an
important theme in terms of transparency,
efficiency and the like). There is a need for product
regulation and a need for a tailored approach to
individual products and markets – but that’s only
half of the glass. It would be half full if we didn’t
complement that approach.
So I don’t think securities regulators are necessarily
at fault. Perhaps the need is greater for more
collaboration and integration of their efforts with
the central banks and the other regulatory board
bodies. Otherwise we will stay in a siloed,
fragmented system and nobody will be able to make
sure that the traffic takes place without accidents.
Traffic controllers talk to each other and they talk to
the pilots all the time. You can’t just say "Well, I’ll
look after this runway and you look after the other".
When the plane comes for landing, somebody has to
be talking and worrying about, not just the space
around the airport, but the repercussions of the
decision to say "yes or no, you handle that runway or
the whole slew of traffic that is taking off and
landing, not just around the area, but in
financial systemlooks like,I'm
systemicriskinamaterialway."- 4 -
Securities regulators have to have this 360‐degree
view of how their role is critical in one part of the
financial system (and they have to do a good job
within that mandate), but they cannot ignore the
broader context within which they are operating.
On Unrestrained Innovation vs
US At the time of the financial crisis, highly
innovative products (such as, securitized products
and derivatives) were either lightly regulated or
entirely exempt from regulation by securities
What was particularly interesting was the role that
they played in the crisis, particularly by transmitting
risk and exacerbating the situation.
In fact, almost perversely, some of these products
whose very purpose was to diversify risk (e.g., credit
default swaps) ended up, in fact, being the source of
We consider financial innovation to be a hallmark of
a healthy and vibrant economy but, in your view, Dr.
Maila, how do regulators strike the right balance
between unrestrained financial innovation on the one
hand (which may have led to some of the significant
problems that we saw in the global crisis) and over‐
regulation on the other?
MM Well, the pendulum has been swinging both
ways. You are right to say that some of the
innovations, in retrospect, were not sufficiently well
I think the key point for me has been essentially a
one‐sided view of the potential for risk
diversification, as opposed to the complementary
view and the necessary view that occasionally you
have amplification effects.
Literature has focused all the time on diversification
as a risk reduction, but people have not spent
enough time understanding how, in fact, risk can be
amplified and that's at the heart of systemic risk.
An even‐handed approach to regulation and finding
the right balance is going to be difficult, but it starts
by examining every product and, indeed, every
intermediation chain in a symmetrical way and
saying "Okay, how is risk being transferred? Is it
being reduced as it is transferred or is it being
I think that mindset is relatively recent in many
circles and we’re trying at GRI to make sure we
examine both sides of that picture. That’s how the
balance is going to be struck. If a particular
innovation, for example, brings more amplification
potential than diversification potential, well, that
will lead you in one direction. But people have not
been as evenly examining both sides of it, in my
Perhaps now the pendulum is swinging too far in the
other direction, but eventually I hope the pendulum
returns to this symmetrical and even‐handed view
of both the benefits and the risks of any innovation.
On the Preparedness of Today's
US It's now been about six or seven years since the
global crisis had begun.
[betweeninnovationandover‐regulation]isgoingtobedifficult…”- 5 -
Governments around the world responded with
reform, including legislative reform. In your view,
what is our state of readiness?
In fact, if I can put to you a hypothetical: if Lehman
Brothers were still in existence and had collapsed
today, how is the global financial system any better
MM Well, it's a very good question and a tough one
to answer at the global level.
It's easier to look at individual jurisdictions and you
can see that there has been major progress on a
number of fronts within countries. Canada still
stands out very well in that respect in that we had a
good crisis and we
have, since that crisis,
put in place even more
reforms that make the
system here more
resilient and robust.
But again, Canada is
not an island.
What I would say has
happened is that the
has presented new
risks. I'm referring to
quantitative easing in
the U.S. and the U.K.
To me, it's different
from the Lehman
episode in many ways.
In looking at these events, you have to say: "Where
is the source of the financial crisis coming from?" It
doesn't mean that the source in 2015 or 2016 is
going to be the same source as before. We need to
look at how the environment changed.
The big change in the environment has been this
unconventional monetary policy that has kept rates
low for a very long time. The consequences of low
interest rates are with us and there is considerable
uncertainty about how we exit back to normal,
higher levels of interest rates and whether the exit is
going to be smooth and orderly, as opposed to one
that will present a risk to the financial system.
So, I think it's difficult to compare the two different
environments. Yes, the causes of the previous crisis
have been identified and gradually are being
addressed, but the system is not static. We've
introduced monetary disorder on a great scale
(when you think about what's happening with
exchange rates as well), which wasn't the case in
2007. So, new times, different crisis, perhaps.
On the Creation of New Risks
After the Global Crisis …
US In fact, there are some
who have been ringing the
alarm bells – arguing that the
recent reforms have,
substantial new risks.
Some say, for example, that
the reforms are extremely
complex and untested, and
that there's significant risk as
to how these reforms will
work in practice.
Others say that the reforms
have created massive pockets
of potential systemic risk that
did not exist previously. For
example, the role of central
counterparties in clearing
massive derivative transactions.
And some go even further to say that we are
providing false comfort and creating a whole new
moral hazard by assuring the public that massive
amounts of information are now being reviewed and
investigations are occurring within the market,
when regulatory budgets and staff haven't increased
and the necessary review is not being conducted.
I was going to ask you your thoughts on these
criticisms or concerns.
environmentchanged…"- 6 -
MM Well, I think we have to take it one step at a
time in the sense of identifying the specific reforms
you're talking about.
Let's take central counterparties, for example. They
have a gradual process in place. There are about 24
new central counterparties being set up to migrate
from over‐the‐counter derivatives trading to a
centralized platform. This started in February of this
year. It's going slowly and gradually.
The questions are around the trade‐offs – and this is
what risk managers do. You're eliminating one risk,
which is really the bilateral and settlement risk on
moving from the over‐the‐counter to a central
counterparty, but you need to make sure that the
central counterparty is robust and resilient in itself
because it is concentrating some of these
counterparty risks. But these trade‐offs are being
examined. Again, we are studying this in great detail
The key is to make sure that as you make a trade‐off
between one risk that you want to reduce that you
will have to take another risk. And you get
comfortable with that evolution if you think the new
risk is better mitigated than the old one. So there is
a risk trade‐off – a risk transformation. There is no
free lunch. You cannot just eliminate previous risks
that caused the crisis and believe we've now moved
to a risk‐free world, which just doesn't exist.
The pace at which you do this is critical. So I would
say, yes, there is a lot happening, but the pace at
which, for example, the derivatives over‐the‐
counter market is migrating is not one that
necessarily will create a problem. If you have
backlogs in processing, for example, that could
create risk. But if the transformation is gradual, then
financial intermediaries will adapt and make sure it's
a robust and resilient process.
I do feel, again, that the environment is changing.
So the lesson about looking at the forest is
appropriate here as well. It is not just what you're
doing in terms of the risk trade‐offs from one
system to another, it's what's happening in the
environment at the same time that we need to think
about. And to me, these systemic risks are far more
important to watch than the technicalities of
migration from one trading platform to another.
On Systemic Risks to Watch…
US What are the systemic risks that concern you the
most and should be at the forefront for regulators?
MM We have a top ten list available on our website.
I've already mentioned a couple of them.
The first one is the exit from low interest rates. We
think it's probably the major issue. The idea is that
we are now relying on highly experimental
monetary policies that have never been tried – so we
are in an unprecedented environment.
How we exit from those and if we can succeed in
exiting in a slow, orderly, gradual way – that would
be great. But we don't have a rule book for that
because it's never been tried on that scale before.
So, that will be the top one.
The second one has to do with how liquidity in many
markets (including securities markets and bonds
markets) seems to have reduced tremendously. If
you look at the inventory of financial intermediaries
trading in corporate bonds, sovereign bonds and
other types of bonds, relative to the flow – it's very
This means that when people want to exit there isn't
whichjustdoesn'texist.”- 7 -
enough market‐making capability and so volatility,
while low at the moment, could emerge suddenly.
For example, in this context, synthetic ETFs that
allow you to move in and out without the underlying
securities (because you don't want the underlying
securities, you just want the synthetic exchange
traded funds) – some of these instruments could
increase volatility if people suddenly want to move
out. Intermediaries who used to have large
inventories would be able to buy and sell orders
without moving the price too much but now they
have lower inventories because, of course, capital
requirements have increased (so it doesn't make
sense to hold as much).
You have this whole phenomenon of market
liquidity in many securities markets being lower
than it was before, which means that there's
potential for more volatility going forward. This is
related to the first emerging risk in some ways
because people will have to re‐adjust their
These are the top two but our list is always under
review and, in fact, informs our research agenda at
On the Need for a National
Securities Regulator …
US My final question for you, Dr. Maila – I wanted to
draw you into the debate on the merits of a
Canadian national securities regulator.
The federal government has repeatedly argued,
including before the Supreme Court of Canada, that
issues such as systemic risk can only be
appropriately dealt with by a national securities
Since the global financial crisis, however, provincial
and territorial regulators have been working
cooperatively (without a national regulator) to
address systemic risk – either through the Canadian
Securities Administrators (CSA) Systemic Risk
Committee or through the Heads of Agencies (HoA)
with other prudential regulators.
Just this past March, in fact, despite its lack of a
national regulator, the IMF gave Canada a passing
grade on its efforts to monitor, mitigate and
manage systemic risk.
In your view, does Canada need a national securities
regulator to manage systemic risk?
MM In answer to the previous question, I
highlighted that the main lesson of the crisis has
been that nobody has been minding the forest and
that everybody was focused on one or two trees at
Any move that takes us in the direction of greater
coordination and less fragmentation, whether
mandated or de facto, is positive in terms of
managing systemic risk better.
I'm not a lawyer. I'm not going to delve into the
typical legal issues that have to do with one province
being able to do something if investors have been
hurt in another province and how they resolve that.
What I would say, from a risk perspective, is that we
know that fragmentation is not desirable – you need
to have greater integration, greater coordination.
Whether you achieve that and how you achieve that
is an issue for politics but, as a risk expert, I would
say we have ample examples – I can mention a
couple in Australia and the case of AIG in the U.S.,
where AIG's financial products division, which was
the one writing the credit derivatives that caused
the need for a bailout of $180 billion, fell between
the cracks of the regulator. Because, as you know, in
the U.S., insurance companies are regulated at the
state level but some of these activities were taking
place in the subsidiary that fell between the cracks.
So, this is an extreme example that if you don't have
sufficient conversation and coordination, the risk of
riskbetter.”- 8 -
things like that happening is higher than if you have
an integrated approach.
As I said, the end is very clear. The means depends
on politics and other factors. But the objective
should be that nothing like that happens in Canada
or elsewhere – that nothing falls between the
cracks. And that's the best defense against systemic
risk and contagion.
So, we are lucky and, in fact, aware of this risk in
Canada – we have been for a long time. But we
shouldn't be complacent about it and we should
keep asking questions like "Could something fall in
between the cracks?" or "Is there sufficient
coordination, information exchange and dialogue
across all the players?" And I leave it to the
politicians to figure out the best means of achieving
US And, indeed, it does seem like they are working
on that. With that, Dr. Maila, I thank you for your
MM Thank you.
Usman M. Sheikh serves as Co‐Chair of The
Advocates' Society Securities Litigation Practice
Group. He is a corporate / securities litigator at
Bennett Jones LLP. The views expressed in this article
are his own.