As former Fidentia boss J Arthur Brown prepares to go to jail following his recent sentencing by the Supreme Court of Appeal, financial experts say that planned new financial regulations in South Africa will make it even more difficult for individuals to escape punishment when committing financial crimes.
There needs to be more of a deterrent for individuals committing financial crimes, says Caroline da Silva, deputy executive officer at the Financial Services Board (FSB).
Speaking at a forum of financial experts organised by the African Institute of Financial Markets and Risk Management (AIFMRM) at the University of Cape Town (UCT) this week, da Silva says the FSB was planning new regulations to ensure there were more serious consequences for reckless and dangerous financial behaviour.
Her comments come in the wake of the Supreme Court of Appeal recently sentencing former Fidentia boss J Arthur Brown to 15 years in jail for fraud and as a Reserve Bank formal investigation into the collapse of Africa Bank is
under way.
She added that bail-outs for banks, as was recently seen for Africa Bank, created the false impression that banks could act with impunity, pursuing high financial yields, knowing that if they failed there were no consequences for individuals.
“Banks take various risks and then they get bailed out because of the systemic risk their default might cause, but nobody is ever brought to account for what they were doing,” agreed Professor Franklin Allen, the keynote speaker at the event. Professor Allen was recently appointed as the executive director of the newly established Brevan Howard Centre for Financial Analysis at Imperial College in London and is widely regarded as one of the world’s foremost experts on systemic risk.
“So what we need to do (following a financial crisis) is to start looking at people, at who did what, and if people were doing things they shouldn’t have been doing, we need to pursue those individuals. Either they get fired or they lose their pensions, for example.” He adds: “These people are completely protected and this is a big problem and helps to foster the moral hazard.”
Da Silva agreed, saying this led to the “too big to fail, too big to jail” sentiment in the financial world that needed to change. “This is the evolution we are going for (with the new regulations), holding people accountable, making them responsible for their decisions is a first line of defence instead of the regulator being the first line of defence.”
She says the planned new regulations were meant to give regulators the ability to act pre-emptively and intervene structurally – before a crisis occurred.
The UCT forum was held to examine the thorny question of whether financial regulation could help to reduce moral hazard – when someone has an incentive to take unusual risks in an attempt to earn a profit before a contract settles.
Moral hazard is widely regarded to be one of the causes of the financial crisis of 2008, which had a real estate bubble at its root and saw banks acting irresponsibly when granting mortgages, especially in the US.
AIFMRM founding director associate professor David Taylor says: “The financial crisis has made it uncomfortably clear that how our financial system takes risk, manages risk, and transfers risk is inconsistent, and needs to be fundamentally rethought.”
But Professor Allen told the forum that the reasons for financial crises around the world were complex – and not always well understood even by the experts themselves. He gave the example of Japan, which experienced the biggest drop in GDP (10%) after the onset of the financial crisis in 2008, even though its banks had not been exposed to US sub-prime and had remained relatively strong throughout the crisis.
His view was that it had something to do with fear of what was happening in the world – pointing out that banks should not always be seen as the culprits in times of financial crisis.
Da Silva agreed: “The financial crisis has taught regulators all around the world that they need to keep up with the innovation of the industry, if we don’t change the way we do things, we will be inadequate regulators,” she says. “The shift into the future will be from rules to principles. We will go from a tick-the-box compliance approach to an outcomes-based approach.”
Fellow panellist Professor Angela Itzikowitz, an executive at ENS Africa, also cautioned that local legislation needed to be situation-specific to take into account South African conditions to ensure that there were no unintended consequences. “We keep seeing that one size does not fit all.”
Da Silva says the industry was wary of the new regulations. “The regulations are seen as a kind of ‘tsunami’ by institutions. But this just a solid wave of reform, it is reform that needs to happen from the market’s point of view as well as the regulators’ perspective, so we need to consolidate but we also need to reform the market,” says Da Silva.
Chief operating officer for Nedbank Capital Anél Bosman says the banks were aware of the “tsunami of regulation” that was heading for financial markets and institutions. “There is not unwillingness from the banks to participate and co-operate with new legislation, but there is a practical implication of how things will work on a day-to-day basis.”
Prof Allen concludes: “Much work remains to be done in understanding and controlling systemic risk and the effect it has on financial stability and the real economy. Bank regulation is necessary but not sufficient,” he warns.