The FSA has published a speech by Thomas F. Huertas (Director, Banking Sector, FSA) entitled The outlook for banking and banking regulation.

At the start of his speech Mr Huertas briefly discusses how the financial crisis occurred and states that the first priority of Governments and regulators remains the containment of the crisis. He also confirms that the authorities will do what it takes to prevent the current crisis from deteriorating further, should the fiscal and monetary stimulus injected into the world economy prove insufficient.

For the remainder of his speech Mr Huertas discusses the longer term agenda for regulatory reform.

He starts by saying that measures will be taken to improve macro-prudential supervision. This will cover two issues. Firstly, how developments in financial markets can impact the real economy, specifically whether ongoing inflation in asset price bubbles can pose a threat to financial stability. Secondly, how monetary and fiscal policy affects the financial markets. Mr Huertas then states that every significant financial institution will be subject to supervision. The gaps in the regulatory net will be closed. In particular, hedge funds and large complex non-bank financial intermediaries will come under closer scrutiny.

Regulation will also be strengthened. After the financial crisis is over, banks will be required to hold more capital, especially with respect to their trading books, and banks will be required to hold higher quality capital. The authorities are also considering supplemental, non-risk-based measures such as a leverage ratio and/or the requirement that banks build up non-distributable reserves in good years which they can draw down in bad times. Banks will also be required to hold more liquidity or conduct their business in a way which more closely matches the maturity of their liabilities to the maturity of their assets. Banks will also be required to improve their governance and risk management.

Mr Huertas then discusses a change in regulatory supervision with the FSA taking a more judgmental approach. This would be similar to the credit analysis that a bank itself applies to a firm seeking a loan from it.

Mr Huertas also states that banks need to change their attitude towards risk management. Banks should question their current business model and ask themselves whether it would be better to shift their emphasis from maximising returns, full stop, to minimising variance around a lower, but still significantly positive return, well in excess of the return of risk-free government securities.

View FSA speech - The outlook for banking and banking regulation, 1 April 2009