The Turner Review: a case of poacher turned gamekeeper?

Adair Turner, the former McKinsey consultant who now heads the FSA, published his much-heralded regulatory response to the global banking crisis last week.  By all accounts, Gordon Brown will use the report as the basis for his initiative to re-regulate the world’s banking markets at the G20 Summit due to be held in London next week. While the report includes some telling insights into the current credit crisis, described in the opening paragraph as “arguably the greatest crisis in the history of finance capitalism” it is fundamentally flawed in its approach to the daunting task ahead. The report sets out a raft of new initiatives: higher capital adequacy margins; closely monitored liquidity regulation; greater oversight of hedge funds; curbs on bankers’ bonuses; rating agency oversight; and what is referred to as “intrusive and systemic supervision”. Yet in truth what is needed is not so much a stack of new regulation, but a regulatory regime that enforces the existing rulebook while eliminating regulations that are either unnecessary or unenforceable.

Turner, very much a New Labour technocrat, has been undertaking a tour of the television studios to pronounce that markets cannot be trusted to be self-correcting. In this context, he likes to refer to recent academic work by behavioural economists, notably Robert Schiller, and the self reinforcing herd effects observed by Nobel Laureate Daniel Kahneman, Paul Slovic and Amos Tversky in their classic work, Judgment under uncertainty: heuristic and bias.

However, a crucial factor contributing to our current financial malaise was the fact that the regulator, in the shape of the FSA, which has a payroll of over 2,500, did not fulfil its statutory role in providing robust regulatory oversight. In the case of Northern Rock, for example, the FSA failed to monitor the bank’s increasingly risky activities. Indeed, FSA officials did not even bother to write up notes on meetings with the bank, nor did it conduct any benchmark comparisons with the way in which the bank ran its business.

Lord Turner wants to implement a raft of new regulatory controls on banks and other financial institutions operating in London. He also favours hiring many more regulators – 200 specialists have already been hired – and paying them handsomely. This threatens to encourage many firms in the sector to move to more congenial jurisdictions. It would be far wiser to implement the existing regulations and jettison the rules that proved redundant or incapable of rigorous enforcement.

From 2000 to 2006 Turner earned a good living as Vice Chairman of Merrill Lynch Europe, a leading investment bank that was rescued from bankruptcy last year by Bank of America. It is noteworthy that neither the American or British regulatory authorities intervened to curb the risky strategies pursued by Merrill, which never missed an opportunity to promote its brand image as the ‘thundering herd’. Nor for that matter does one remember Lord Turner speaking out at the time about the apparently remunerative business initiatives followed by his well-paid colleagues.

While bankers have certainly demonstrated that markets are rarely perfect, there is also such a thing as regulatory failure. The FSA in Britain and the SEC in the US demonstrate that regulators were often asleep on the job, and that the panoply of rules and regulations were simply not applied. Before heading down a path triggering many new and costly statutory requirements, regulators would be well advised to focus on how they can implement existing regulations in a more effective manner.

Keith Boyfield is the chairman of REG, the ASI’s regulatory evaluation group.