Defined Terms and Documents       

Recently, the federal government completed an inquiry into how we regulate the financial system.

One of the inquiry's proposals was that we need a board of oversight over -

*        ASIC – the consumer protection regulator; and

*        APRA – the bank regulator.

That proposal was eventually dropped, doubtless with some push-back from the regulators. In fact, creating a Financial Regulator Assessment Board was the inquiry's only recommendation that the Abbott government rejected.

Because of ASIC's staggeringly poor performance, and all the recent banking and insurance scandals, there's now a call for more than a board of oversight, there are calls for a royal commission.  So that worked out well.

All the while a blowtorch has been held against ASIC, and for reasons that are both good, and that keep coming. But APRA has escaped scrutiny, when in fact it may be the unsung villain of the piece.  Allow me to explain.

Capital stash

First, there is this thing called the "capital requirement". Capital is money that banks must stash under the mattress, in case you-know-what hits the fan. Banks hate doing this, because money under the mattress is almost dead money. It cannot be invested, or earn normal profit.

The amounts to be stashed under the mattress depend upon the perceived quality of the assets. The higher the quality of an asset, the less money must be stashed.

Explosive evidence from two economists, David & Soos, was that fraud is rife among our banks: for one thing, they are fudging the numbers on credit applications to make borrowers look more credit worthy.

This would allow banks to reduce the amount of cash stashed under the mattress. And we are not talking small change. We are talking 12 per cent of risk-weighted assets. The big four banks have risk-weighted assets of $1.55 trillion.

Allegations of book-cooking are not secrets. They have been aired before the Senate, and so APRA is on notice.

Not a science

If you accept that the amount of capital banks must retain is a scientific number, not an arbitrary one, then the fact that banks have engaged in such profound governance failures – cooking the books – may leave them under-capitalised.

If (or when) another global financial crisis strikes, our banks will be susceptible to collapse. If one bank falls, others follow suit, in a process called "contagion". In the US that cost its economy almost a trillion dollars. Do we want that here?

Illustration: Andrew Dyson.

Our two financial regulators are like a clown car with two drivers, hurtling down the freeway.

Then there's the small matter of the litany of other governance failures -

(i)         including Commonwealth Bank's financial planners; and

(ii)        insurance scandals and allegations of rate rigging at Westpac and ANZ.

APRA has had the power under the Banking Act (11CA(2)(e)) to appoint its own representatives to the boards of these companies – a power it has had for 15 years, and which it can invoke if it detects serious governance failures.  Guess how many times it has used it?  Zero.

How much more is needed?

If the evidence of dodgy dealings is not enough, and the severity too minor, then exactly how much more evidence does APRA need, and how much worse must it get? Financial planners have been convicted of forging signatures.

CBA has admitted to the wholesale denial of valid insurance claims. It was even caught spying on its critics – including a federal MP.  Westpac and ANZ have a "prima facie'' case to answer on rigging rates.  IOOF staff were engaged in front running.

Even ASIC's chairman, Greg Medcraft, has admitted that Australia had become a paradise for white collar crime.

The public has had a gutful. And if laws like the Banking Act remain unenforced, is it any wonder anger levels have become incandescent?

Singapore solution

The alternative is a regulator like the Monetary Authority of Singapore (MAS). It has a reputation for being so no-nonsense that one senior banker in Singapore described what MAS does to misbehaving banks in language that cannot be repeated here.

Obviously our regulators' culture must be scrutinised.  We need to imbue them with some backbone, not just to walk around like they are in police fancy-dress, but to actually act like a cop on the beat.

And it's not only MAS from whom we can draw inspiration. The ACCC is widely regarded as highly effective and no-nonsense.

Much of that is credit to Alan Fels, former chairman of the ACCC, who was a regulator's titan. He went on record in the Financial Review recently to say, if he was running ASIC, he would be cracking the whip.

The timidity of our regulators, and their "nothing-to-see-here" approach can be summed up with this analogy: our two financial regulators are like a clown car with two drivers, hurtling down the freeway. One driver – ASIC – is passed out at the wheel.

The other driver – APRA – refuses to watch the road. The federal government won't apply the brakes (a royal commission). What's likely to happen next?

Dr Andy Schmulow is a senior lecturer in Law, UWA, and a visiting researcher at the Universities of Witwatersrand and Sungkyunkwan, Seoul.
He was assisted by Dr Pat McConnell, Macquarie Centre for Applied Finance.