How Banking Law Affects Finance Management Finance Essay - Free Essay Example

Sample details Pages: 11 Words: 3362 Downloads: 1 Date added: 2017/06/26 Category Finance Essay Type Argumentative essay Did you like this example? The Bank of England (hereafter also BOE, the Bank) was once a regulatory and supervisory body of all banks and financial institutions in the United Kingdom but this has changed since the happenings of Bank of Credit and Commerce International (BCCI) in 1991, it was one of the worlds largest banks at the time; some refer what happened as Britains biggest banking scandal while some describe it as one of the biggest bank fraud in history. Whatever it was remembered as; what we should recognise is that the BCCI scandal has had significant impacts in the world of banking (particularly for the United States and United Kingdom). The bank (at least the UK branches) was forced shut by the Bank of England in the summer of 1991 after having confirmed that it has been involved in numerous fraud activities, of money laundering, and so on. Don’t waste time! Our writers will create an original "How Banking Law Affects Finance Management Finance Essay" essay for you Create order Allegations was made against the BOE, criticising its poor oversight of the banking sector and that it had, again and again, ignored the warnings that could have proved the criminal nature of BCCI. Consequent to what had happened, when the Labour Government came into power in 1997; the BOEs responsibility as a regulator and supervisory body has been transferred to the Financial Services Authority (FSA- by the BOE Act 1998). The recent financial crisis has raised doubts, once again, and this time on the FSA. Doubts were brought on the effectiveness of the FSA in fulfilling its principal role of regulating all financial services and whether are they competent enough in the continuation of role. George Osborne (the Chancellor of Exchequer) seems relatively keen in scrapping the FSA and significantly to transfer responsibility for dealing with the day-to-day supervision of banks and financial services back to the Bank of England- he seems determined to re-empower the BOE of its original role. In his first Mansion House Speech in the summer, he made it clear that the Financial Services Authority will cease to exist in its current form. But should this really be done? After all financial crisis hits the world once every 10 years or so, this is somewhat inevitable and it is only a part of the economic cycle. The answer which we aim to approach by the end of this essay is whether the powers, in fact, should be reverted back to the BOE, while simultaneously; trying to discover whether does the BOE at present hold sufficient powers over banks (and particularly commercial banks since risks usually arise in them) or should the powers it holds be increased or decreased. The two questions are directly linked since when we say that the BOEs power should be increased; the most significant power that should be handed to them was the power that was taken away from them in 1998. On the other hand, when we say that their powers are to be decreased, it could mean no further than that the supervisory powers that were taken away from them should be remained as it is- this is so since any further decease in power will make the BOE a central bank with only carries with it the title as a central bank but in fact does not operate as one. It is essential, in order to discover answer these questions, to first look at the powers which currently vest with the BOE and the FSA. BOE and the FSA What should be understood is that the Bank of England remains of crucial importance in the operations of banks and in banking law even after the transfer of some of its functions to the Financial Services Authority in 1998; it remains the banks bank and more so, despite the transfer, the Bank retains responsibility for the integrity of the financial system as a whole. So what does it do? First, it should be noted that the BOE acts as a banker to the government. What we meant by this is that it hold the accounts of the central government, they hold accounts for the Exchequer (the governmental department that receives and controls national revenue). Moreover, it acts as a banker to other banks (hence why it is the banks bank). We could see this in three aspects: It means that the leading banks (Lloyds TSB, Barclays, Santander, HSBC etc.) keep their accounts with the BOE and therefore, settle their obligations (to pay one and other) at the bank- it occurs by way of an accounting process. The BOE is the lender of last resort- in exceptional circumstances; the BOE will intervene and rescue a bank which is facing financial problems in order to promote the sustainability of the banking system. A good example we saw recently is the problems which was faced by Northern Rock. The BOE has a virtually monopoly in issuing banknote in the United Kingdom (though limited powers is given to certain banks in Scotland and Northern Ireland). Furthermore, as we have suggested, since the Bank of England retains responsibility for the integrity of the financial system as a whole, we see that it is specifically responsible for: a) Stability of the monetary system, b) Financial system infrastructure and particularly the payment system, c) the overview of the financial system as a whole, d) the ability to conduct financial rescue operations, and e) the efficiency and effectiveness of the financial sector. Stability of the monetary system simply means stable prices and this encompasses within it, two elements; low inflation and confidence in the sterling, and this is defined by the government with its inflation targets. The BOE has been given powers (under the BOE Act) for the formulation of monetary policy and this is usually implemented through the setting of interest rates (which they have a monopoly under Part II and Schedule 3). The Banks Monetary Policy Committee meets each month to set the official base rate of interest for the economy. With regards to payment systems, the Banking Act specially enables the BOE to oversee payment systems between financial institutions. As we have iterated again and again, the Financial Services Authority is now the regulatory and supervisory body for all banks and financial institutions in the United Kingdom and this remains so until real changes take place (i.e. Our Chancellors proposal to scrap it), reverting this power back the BOE. The Financial Services and Market Act (FSMA) which came into force on 1st December 2001, provides the functions, responsibilities and powers of the FSA. Further, by result of the Act; the FSA became the official Single Financial Services Regulator for the United Kingdom. The prior distinction between the different financial services regulators; for banks of which is the BOE, for insurance of which is the Department for Trade and Industry for example; were removed and the Financial services Authority became the regulator responsible for all forms of financial services- banking, insurance and investment business are all within the scope of its regulatory power. Whilst enormous powers h ave been conferred on the FSA by the FSMA, it is also provided under that that the FSA must act compatibly (in accordance) within four regulatory objectives- Section 2; 1) to maintain confidence within the financial system, 2) to promote public understanding of the system, 3) to secure the suitable degree of protection for consumers and 4) to reduce financial institutions from making use of a regulated business for financial crime. Additionally, it is specifically provided under Section 2(3) that, when discharging its general functions, the FSA must have regard to seven additional factors; and this includes (amongst others), to make efficient use of its resources and to ensure proportionality between burden and restriction imposed with the benefits. But what responsibility do FSA actually have? The Memorandum of Understanding, provides that under FSMA, the FSA responsible for (amongst others): i) authorisation of activities and prudential supervision of banks and financial instituti on, and ii) supervising the financial system, securities listings, clearing and settlement system. With regards to the 1st responsibility, for banks, the FSMA provides that the FSA must grant authorisation for institutions to carry out the business of banking (accepting deposits as well as issuing loans at an interest)- Section 19 imposed an overall prohibition on anyone carrying out or purporting to carry out a regulated activity (banking activities fall within the ambit of regulated activities) and this is so except where they have been authorised or where they have been exempted from authorisation (Section 19(1)). As we have thus far noted, there is no single body, in truth, in the regulation of the financial system (even though the upper-hand powers seem to lie with the FSA). Also, what should be noted is that the Treasury also plays a part in this (this includes the politicians- hence why politics plays a role in banking and banking regulation); and together (the 3 bodies) has a shared objective of financial stability. They work together towards their objective by whats called the tripartite agreement (in which stipulate it is their shared responsibilities to achieve financial stability- or so it says as we will see) and this was the position until the recent global financial crisis where not even one of the bodies sees it coming. Initially, it was believed that none of the bodies were effective in satisfying their job but after investigation, it was claimed that essentially it was the FSA who was asleep in their job. Argument for and against the reversal of powers back to BOE As we shall see later, the arguments for the programme described to be restoring the previous glory of the BOE are relatively strong, at least so far as demonstrating that changes to the current governance of the financial system are eminent. In Sir Martin Jacobs report: Re-empower the Bank of England, the former Director of the Bank of England seem somewhat supportive of the view of Mr Osborne and described the arrangement of the 3 bodies ÃÆ' ¢Ãƒ ¢Ã¢â‚¬Å¡Ã‚ ¬Ãƒâ€šÃ‚ ¦contributed to the failure of the regulatory systemÃÆ' ¢Ãƒ ¢Ã¢â‚¬Å¡Ã‚ ¬Ãƒâ€šÃ‚ ¦ and which is, in turn, a central cause of the catastrophe which engulfed our economy. What appears relatively clear since the recent global financial crisis is that, it is quite unlikely that anyone would (any longer) back Gordon Browns decision in 1997 on the transfer of BOEs responsibility for prudential supervision of banks and financial institutions to the FSA. It was said that whilst the tripartite agreement appears to give the r esponsibility for financial stability to all of the 3 bodies, the main role (if not the sole) in fact lies with the BOE- as could be seen in the agreement; the BOE has to ensure the stability of the financial system through its monetary policies and maintaining a broad overview of the system. Consequently of this de facto responsibility, the supporters claimed, the fact that the supervision of individual banks and the financial institution has been taken from the BOE meant that they no longer have any direct touch with them making it impossible to know what was going on in the credit markets. The effect of the transfer of powers meant that the BOE have no access to information, and more significantly, they lacks whats necessary to fulfil their responsibility of financial stability- as they no longer have direct touch with banks (whats important in our perspective) and financial institutions, the BOE could not have (sufficient) influence them (and thus in no way could it actually hav e any control). On that front, one may argue that this does not matter since the tripartite agreement depends upon the flow of information between FSA and BOE; and thus as long as there was an effective flow of information, there couldnt have been any issues since BOE can simply alert the FSA if it notices any warnings that could harm the stability of the financial sector. Yet, this is precisely the point, the BOE could only alert if they are direct touch and without that power, it meant it is impossible for them to do so. Also, this counter-argument was flawed on the ground of the recent financial crisis- for example: The FSA has explained that the happenings with Northern Rock were the outcome of the lack of the flow of information between it and the Bank- The Bank of England left in the dark and was thus unaware of the danger. The Proposals put forward by the Chancellor in which will be of major significance to banking law (if it were to be brought) were that the FSA would be broken up, the supervisory and regulatory powers would be taken by a new Prudential Regulation Authority (PRA), it will operate as a subsidiary of the BOE. Moreover, a new committee (the Financial Policy Committee- FPC- another subsidiary) will be introduced and it will be responsible for attaining financial stability (which obviously is a function of the BOE). With regards to the part of the FSA which was supposed to protect consumer and crack on crimes, it will be injected into 2 new agencies. Our main focus, evidently, lies with the creation of PRA and FPC, which as far as the proposal suggests, will become the subsidiaries of the bank. This is obviously an important change and an improvement from pre-1998. Prior to the decision taken by Gordon Brown, the BOE was responsible for the regulation and supervision of banks and financial institutions and this is one of its responsibilities along with many others. The meaning of this change, however, is that although, it is still the BOE which is still responsible but this is delegated to its subsidiary, and they will be accountable to the BOE. In such a way, direct flow of information could be, to a degree, guaranteed and this would avoid the problem that arose with Northern Rock. It has also been strongly asserted (by Melvyn King and Sir Martin Jacob for example) that the one of the flaws with the current system was that the BOE was not fully involved in resolving troubles which bank faces. Without direct touch and therefore no knowledge of the states of banks meant that the BOE cannot provide support when bank needs help. More so, even if there were effective flow of in formation between the FSA and the BOE, the BOE lacks the advantage of having first-hand information which would allow them to act efficiently. Remember, the BOE have many functions and amongst this was that it is the lender of the last resort. How could it possible make effective use this function if they do not have direct touch and the most up-to-date knowledge of the health of the banks? as pointed out by Mervyn King (Governor of the BOE). Furthermore, as we said earlier, how could the Bank achieve its core objective of financial stability if they could not actually supervise and regulate banks and financial institution? The reliance on the working of the three bodies (and in particular; the FSA and the BOE) together towards the objective of financial stability are defective in the sense that we have already mentioned and was proved to be a failure in the recent financial crisis. Scrapping the division of control between the FSA and the BOE, accordingly, should certainly improve the state of our financial system. Whilst we saw that there are a number of arguments in flavour of re-empowering the Bank of England, one thing we can possibly ask is to what extent could this avoid another financial crisis? The structure proposed appears to be a bureaucratic system of control whereby each of the subsidiaries; the FPC, MPC and PRA would be accountable to the BOE and in such a way, it was hoped the BOE to satisfy their two core objectives; monetary stability and financial stability. The problem with such a structure is that again there is a reliance on the flowing of crucial information between the subsidiaries. As with (for example) a company which operates a bureaucratic structure where all departments is under the control of the managing director and therefore are all going after the companys goal, each department still have distinctive roles and communications can sometimes be very difficult. The same applies to the system we have here, although they are all under the same objectives, the fact tha t they have different role can make communication difficult. As proven by past experience, effective communication of information is not easy and subsuming the 3 bodies under the BOE can result in a complex structure and could simply not work. After all regulating and supervising banks so as to avoid them from doing unauthorised activities and avoiding risks from building up (by for example by setting a limit in capital holding and amount in which it could lend etc.) fall within the responsibility of PRA but all these could have an effect that coincides with the responsibility of FPC. Being able to work together and ensuring a sufficient flow of information, thus, is the key to any governance of the financial system. The structure is not necessary if we could guarantee these two elements between the FSA and the BOE. What we must not ignore is the fact that global financial crisis (as we have already said) is only part of the economic cycle and thus it is wrong for radical changes ev ery time it ticks. Rather what should be brought are perhaps improvements, and the fact that the earlier Labour Government brought a new committee to help improve communications between the three bodies, may very well be adequate. Having due regard of the arguments posed for and against the re-empowering of the BOE, it seems relatively evident that the arguments for the proposal stood much stronger than that against. If it is one of the BOEs core objectives to sustain financial stability, it could not do so without the regulating and supervising powers of banks and financial institutions and the current division of control (that of FSA and BOE mainly) creates inefficiency in the financial system. Besides, the fact that the BOE is the lender of the last resort, and yet it is receiving information on the health of the banks (under the current system) after the FSA, will altogether, delay decision makings of the BOE (i.e. whether to give loan to a bank- for example: Lloyds TSB in the recent crisis). This could accordingly result the financial system in getting to the worse side- where remedial actions could no longer effective. Leaving it too late appears, however, inevitable under the current system. Even if it was true that we should not undertake radical changes every single time we suffer from a financial crisis, but the current changes appears essential to ensure the efficiency and effectiveness of the the financial system. Rather, what should be remembered for the next financial crisis (which will be inevitable) is that we are human-beings (which the BOE consist of) and so there is always going to be errors. We should allow for a margin of error and until it passes an unforgiveable level. In fact, nothing should really be changed if the system has been working so well until the financial crisis pop-up. Drawing up all the considerations, it appears that re-empowerment of the BOE is crucial and that the powers that it currently holds are insufficient to fulfil its responsibilities as a central bank (monetary and financial stability). For the reason that majority of the risks usually come from commercial and investment banking meant that the powers it holds, is particularly insufficient since these banks are usually big in size and therefore is unlikely to listen to advices of the Bank unless when they themselves realises the risks. As we have said, if the powers of the Bank is ever to be further reduced, the BOE would become a de june central bank with no actual functions as one. Increasing the current powers (as proposed- to return its regulatory and supervisory powers) will give the bank a de facto regulatory role which would give it satisfactory controls over banks as well as other financial institution. The latter is what is necessary and is what should, in fact, be done.