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Prudential regulation: Caught between homogenization and diversity

Financial market regulatory agencies are typically differentiated between the functions of prudential regulation (concerned with systemic stability, via soundness of sectors and product lines or, failing that, 'resolution') and conduct regulation (enforcement of market conduct rules). Here we touch on accountability in relation to some prudential aspects, while some conduct aspects will be discussed later.

Reverse accountability

There are many unsettled questions here. From the point of view of an interest in financial market regulation, European regulatory theory faces two difficulties, which concern framing and methodology.

On framing: the common point of departure (or basic assumption) of much regulatory literature - the formation of regulatory agencies as part and parcel of the post-World War II reduction of state-owned industries in developed countries, and the construction of a form of governance to take the place of state direction (Majone 1994) - is problematic from the point of view of financial market regulation. Financial regulation does not really share the same political history as energy or transport. Outside communist states, finance never was socialized then re-privatized. Finance has been a private industry for a considerable time, preceding modern state-formation. As for its regulation, self-regulatory bodies and central banks developed from the XVII century onwards in European countries. In some countries, including the US and the UK, separate financial market regulators also emerged (Moran 1986); nevertheless, central banks remained significant and have increased in importance following 2007.

As far as accountability goes, the historical record, contemporary practices and Independent Central Bank (ICB) theory combine to underline the very weak upward accountability from central banks to the political realm. Historically, in the case of the UK, economic, cultural and family linkages between the City of London and the aristocracy provided the locus of governance (Daunton 1989; see also Williamson 2004 and Dorn 2014b). On the rare occasions when parliament or government might have 'interfered', the Treasury (finance ministry) acted as a political barrier and 'cut-out' (Burn 1999). Even more striking are occasions when vertical ICB-state accountabilities have been observed but in the form of states being made accountable to 'their' central banks, for example trimming public policies and budgets in response to the central bank's preferences and pressure (Lambie 2013). That was famously the case for the relationship between Bank of England and the Labour government in the period following World War II (Ibid.). More recently it has been seen in the policy stance of the European Central Bank, in respect of 'peripheral' eurozone countries in the 2010s. It could conceivably be argued that such relationships and outcomes are not illustrative of accountability as defined by the editors of this volume, but rather result from politicians being sensitive and responsive to the arguments of regulators. That may be partly so, even if sometimes there has been the appearance of duress (see the sources above). In the view of the author, episodes such as those mentioned above indicate that not only are political actors obliged to give information and reasons to central banks, also they sometimes find that central banks actively orchestrate markets in order to impose action on governments. The case of the UK as described by Lambie (op cit) is instructive but by no means unique; see also that of Ireland, obliged by the European Central Bank to convert private debt into public debt. Such episodes illustrate what might be called 'reverse accountability'. If, as mentioned by Schedler (1999) and by the editors of the present volume, accountability comprises the two elements of 'answerability' and 'enforceability' (allowing one party to judge and punish poor performance), then there have indeed been occasions when central banks have done both. Technical reasons are furnished on these occasions, however the point is that there is little doubt that accountability can at times be powerful in terms of governments being made accountable to central banks.

Clearly, central banks represent a rather strong form of the regulatory argument for independence, amounting to autonomy and, on some occasions, the power to direct states. To achieve this, the international central bank (ICB) paradigm frames issues in a manner that eliminates the perspectives and world views of wider stakeholders, the latter being characterized in terms of lack of understanding of the 'technical' issues involved and/or in terms of conflicts of interest. During the time of writing of this chapter, the ICB paradigm was gaining leverage in the European Union as a discourse on, and plans for, Banking Union (summarized by Lannoo 2013).

Such governance arrangements are currently somewhat in flux. The crisis that announced itself from 2007 onwards has had some contradictory consequences on architecture and functioning of financial market regulation. Whilst pre-crisis tendencies for global convergence of regulation and greater networking between regulators have continued in some respects, exacerbating the tendency for technical actors to float further from parliamentary control, there are also some tendencies towards the re-nationalization of regulation. One example is the 'subsidiarization' of banks, meaning breaking them up into nationally based legal and organizational structures, so as to facilitate bank resolution as an alternative to bailout. Another example is the emergence of political controversy in the US and in many European countries over banking and other financial services. What was a rather depoliticized area has become more contested. However, as signs of crisis recede, such accountability to governments and parliaments may deteriorate to become no more than a gloss, veneer, a form of politesse, leaving regulators to drift back to autonomy, convergence and a herd mentality as in the run-up to the crisis of 2007 onwards.

What is needed, in order to safeguard democracy, divergence and stability, is a fuller, more robust and permanent politicization of policy in this area. Indeed, there is a struggle to redefine the issues and to control the future direction of events, which has both multi-level and comparative aspects. In multi-level terms: elites in the 'revolving door' world between international regulatory bodies and global financial firms (whose presence and lobbying power is considerable) are working to redefine rules in convergent, harmonized, global forms (the Basel bank accords, the Financial Stability Board, and so on). Indeed, there are strong tendencies for policy and regulation, already partially established at a supranational level, to consolidate at that level (Seabrooke and Tsingou 2009). In distinction from past years, and rather symptomatically, spokespersons for large banks and other financial interests endorse and sometimes even lead calls for more regulation - just as long as it is globally convergent (as represented by comments from the former head of Barclays Bank; see Financial Times 2013: p. 1).

Similar tendencies are visible at the European regional level, with new EU regulatory authorities and the expanding political territory of the European Central Bank. Against such harmonizing tendencies there are many interests, represented at national and in some cases sub-national levels, seeking at least to maintain and in some cases to increase their freedom of action: citizens rediscovering political voice, political parties advocating different ways of allocating financial burdens, finance ministries wary of future public subsidies to the financial sector, and parliaments seeking to exercise powers of oversight. This tempts political parties to organize around diverse, competing policies on financial markets and regulation. Admittedly, taking political responsibility would be daunting for a polity that has grown used to contracting out that responsibility to regulatory elites.

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