Address by Director of Markets Supervision Gareth Murphy to the Funds Congress 2013

18 April 2013 Speech


I would like to express my thanks for the invitation to speak at today's Funds Congress.

Whilst thinking about what I would say this morning, a broad range themes came to mind which I will touch on in my remarks:

  • the gaps which have emerged as a result of a weak European banking sector;
  • the role of Asian countries in the future evolution of the funds industry;
  • the emerging needs of Europe's ageing population which is living longer in a low yield environment without the benefit of defined benefit pension schemes;
  • the ever-widening focus of central bank and macro-prudential authorities, and
  • the current agenda of regulatory change in financial services – not just what is in it but also how it is being shaped.

When it comes to the regulatory agenda, I would like to say that the outset that we all have a significant role to play in reading the political temperature, highlighting priorities and debating how regulatory intervention takes place. I will come back to this point a little later.

I should stress that the views I am expressing are my own and may not necessarily be shared by my colleagues at the Central Bank of Ireland or at ESMA.

How did we get here?

Over the last twenty years, (nominal) global economic growth has averaged 5% and the growth of global financial assets has averaged 7%.1   Since 2002, the stock of global funds under management has risen by 8.5%2 3 4 . In contrast, the financial crisis has exposed significant weaknesses in the banking system with the supply of credit impacted by banks with legacy loan book issues and the flow of credit 5 influenced by the relative prospects different economies. So the asset management industry continues to grow and the funds industry has a particular role to play in in the delivery of various financial services to the real economy.

The growth in assets under management for UCITS and non-UCITS funds also underlines the fundamental attractiveness of a sector which offers cost-efficient solutions that support risk-taking, which enhance the opportunity set of investors and which provide diversified investment strategies. This growth also underscores the resilience of the sector which has seen some significant economic and market shocks in the last fifteen years.6

Key changes in European financial regulation

Notwithstanding the sector's resilience, the regulatory reform agenda for financial services is one of the most significant developments in the last two decades.

Regulation in Europe has its own idiosyncrasies. It has been said that the pursuit "of the single market agenda over many years has produced a complex regulatory and institutional system that results in the EU being in a very different position from other countries with respect to the options for dealing with cross-border contagion.” The evolution of the single market and the increasingly transnational nature of the financial industry has seen European member states cede national discretions in favour of a single rule book.7

In the advent of the financial crisis, with the accession of the Treaty of Lisbon and with the adoption of significant recommendations made by an expert group chaired by Jacques de Larosiere, there have been significant changes in European regulation at three levels: (i) the (policy formation) process, (ii) the (supervisory and regulatory) architecture and, of course, (iii) content.


In terms of process, there has been a shift in the relationship between the European Commission and the Member States. Recent regulatory changes have seen the European Commission in the driving seat as it proposes regulations which then go for co-decision to the European Parliament and the European Council. It has been noted that "the European Commission... is in a position to be able to exploit informational advantages, access policy networks and extensive bureaucratic competencies in order to mould the detailed design of the system ... to its own institutional preferences".8

Where directives are being negotiated, there is an increasing tendency for the finer details to be worked out through acts which are delegated to the European Commission or through technical standards which are mandated to the European Supervisory Authorities (ESAs). In theory, this should support sharper rule-making which has fewer unintended consequences as the detailed work is being left to technical experts.

However, the consequences of such delegation can be unpredictable and may not align with the intention of primary legislators, especially if the primary legislation is unclear. In some cases, the thrust of primary legislative acts may be diluted when the technical rules are written.9  There is also the risk that when challenging deadlines are set for the delivery of such technical rules, the quality of such rules may suffer as a result.


Since the crisis, the European regulatory architecture has changed. Indeed, it was the European Commission's decision in October 2008 to seek the advice of the de Larosiere Group that saw the drafting of a new blueprint for European financial regulation and supervision. With the creation of the European Supervisory Authorities (ESAs) and the European Systemic Risk Board (ESRB), there has been a substantial shift of regulatory responsibilities away from national competent authorities in pursuit of a common rule book, a level playing field and a greater consistency in supervision. I would expect that shift to continue in the coming years as the ESAs continue to establish themselves and pursue their mandate.


Without diminishing the MiFID and UCITS III directives, the significant regulatory changes impacting the asset management industry over the last two decades largely stem from the financial crisis of 2007/08. For most of the people in attendance this morning, AIFMD is the most significant regulatory initiative of immediate consequence. This is a complex directive setting rules in relation to cross-border marketing, depositories, delegation, interaction with third country financial authorities, remuneration, risk management, capital, investor disclosure and regulatory reporting, to name but a few. New funds regulations will also follow with UCITS V and VI.

The other big change, whose effects are difficult to predict, is the application of a Financial Transaction Tax in a number of EU countries.10  This is likely to lead (i) to a significant change in primary markets as issuers, investors and trading venues seek to mitigate the effects of the tax and (ii) to substantial adjustments in secondary markets as the chain of financial transactions is altered. As is evident with FATCA, fund service providers are likely to play a role in providing information to tax authorities.

But other regulatory initiatives will bear directly on the industry as well, such as the Short Selling Regulations (SSR) and the European Markets Infrastructure Regulations (EMIR). This is to say nothing about those that have not landed yet such as shadow banking reform, PRIPS, CSDR and further iterations of the transparency, market abuse and MiFID directives. And we should keep an eye on the effects of regulatory changes in banking and insurance as well.

Why this regulatory programme?

Much has been written about the origins of the financial crisis citing loose monetary policies which led to an asset price bubble supported by collateralized lending with poor underwriting discipline, weak risk management and misaligned incentives.11

There are many drivers for the European regulatory reform agenda in financial services. Some are rooted in the market failures exposed during the financial crisis and some are prompted by the politics of responding to a crisis which has imposed significant burdens on taxpayers and which has challenged the credit-worthiness of sovereigns.

Few people will dispute the fact that substantial regulatory reform was needed. The financial crisis exposed serious market failures. The response by financial authorities to the crisis has been extraordinary.12  The politics of such public sector support – ‘the politics of bail-out’ – is likely to set social, regulatory and fiscal agendas for years to come.

The current alphabet-soup of regulatory reform 13 spans: bank capital and liquidity, deposit protection and bank resolution, secondary markets trading, remuneration, depository liability, centralised clearing of derivatives, short-selling, product complexity, use of collateral, to name but a few. It is ambitious and, indeed, risky.

Potential risks arising from this regulation programme

Given the extensive programme of regulatory initiatives, it is worth highlighting the potential risks. Concerns have been expressed 14 about the current regulatory reform agenda from a global regulators’ perspective, citing:

  • a lack of clarity on key priorities;
  • insufficient co-ordination at a global level;
  • too many financial authorities cooking up their own regulatory recipes;
  • consensus decision-making diluting the thrust of regulatory reform; and
  • inadequate cost-benefit analysis.

We should all be concerned at the risk that poor execution of this agenda will undermine the ultimate goals of regulation which is to support real economic activity and, in particular, the relationship between end-issuers and end-investors 15. Recently, a former colleague of mine observed that if the EU and US do not get it right this time, it will be the Asian powerhouses who will drive the agenda in future years.

Successful regulation, when measured over a meaningful time-horizon, goes hand-in-hand with economic success. It is noteworthy that the US regulatory reforms of the 1930s were largely untouched until the 1990s with the intervening period seeing a period of sustained US economic growth.

But the economic and political impetus for reform is strong. There were significant market failures. There have been cries of ‘never again’.16

The challenge to my mind is to articulate clear credible priorities for financial reform, which result in a coherent package and which deliver effective protection to investors, maintain market integrity and mitigate systemic risk.17

Where should we be going?

Where should we be going with reform of financial regulation? Looking across the extensive regulatory reform agenda, I would highlight five particular priorities:

  • improved monitoring of all financial services activities;
  • building a safer system for derivatives clearing;
  • ensuring that the production costs of investment products are fair and perceived to be fair;
  • building a reliable framework for the resolution and orderly failure of financial entities;
  • and of course, there are the immediate priorities in Europe related to impact of a weak banks on sovereign states and the real economy.

Let me make a few remarks about these priorities with particular reference to the funds industry.

OTC Derivatives

Global GDP amounts to about $72trn. Global financial wealth (excluding derivatives) is approximately $225trn 18. Measured by notional amounts outstanding, global OTC derivatives positions are estimated at $639trn 19. Even accepting the fact that many credit exposures arising from these positions are collateralised under two-way mark to market agreements, the collapse of Lehman Brothers highlighted the dangers to the market arising from the failure of a significant derivatives counter-party. EMIR and Dodd-Frank require the central clearing of most OTC derivatives so as to reduce network complexity and concentrate points of possible system failure at known parts of the system: mostly CCPs (though clearing members will also be a source of risk).

Data gaps – financial reporting improves monitoring by financial authorities

Financial authorities realised during the crisis that there were significant gaps in their capacity to monitor the financial system and that this hampered their response to the crisis.20 Concerns were expressed that the interconnectedness of the financial system created an irresolvable network which was vulnerable to contagion effects. 21

For example, the hedge fund sector is one of the most opaque and yet most dynamic sectors of the asset management industry. It should come as no surprise that AIFMD requires AIFMs to file reports which shed light on their activities and to help financial authorities understand the role they play in the financial system. With trade repositories collecting transaction data as a result of EMIR and the roll-out of a global legal entity identifier 22 to identify the counter-party to every trade, I see this agenda of gathering more data from the financial industry continuing across all financial activities in coming years.

Banking and Shadow Banking

This monitoring agenda also aims to understand the boundaries between different types of financial activity. Financial intermediation has evolved substantially since the first hedge funds were launched over forty years ago and the first UCITS was created back in 1988. Over time, the boundaries between banking, insurance and securities sectors have become blurred as financial products and services have become more fungible 23. As banks with access to the central bank discount window have:

  • securitised assets (and conducted maturity transformation off-balance sheet);
  • sponsored money market funds (and offered deposit-like products without depositor protection);
  • borrowed from open-ended fund vehicles, and
  • assigned loans to third parties.

The distinction between monetary and non-monetary institutions (defined by whether or not they have direct access to the central bank liquidity) is no longer clear-cut.

As the funds industry fills some of the void created by an anaemic banking system by supporting the flow of credit, central banks and macro-prudential authorities are taking a keener interest in developments in securities markets and in the investment management industry, in particular.

We should proceed with our eyes wide open. Where promoters seek to create funds which hold loans (as opposed to securities), the traditional functions of loan origination and loan servicing are often carried out at the behest of the promoter. In order that there the lessons of the financial crisis are heeded, it is important that when funds hold loans that they are not prone to run risk (which would interrupt the flow of credit) and that the incentives of non-bank loan originators are aligned with investors in funds which hold these loans (so as to avoid mispricing of credit). 24

On a more topical matter, money market funds provide corporate treasurers with important vehicles for managing their liquidity. Investor runs in parts of this industry during 2008 prompted intervention by financial authorities and have encouraged a vigorous policy debate on the most appropriate reforms. 25  It is important that the approaches to regulatory reform in this area focus on the key issue of mitigating investor runs which, as we have seen, can afflict all types of open-ended funds and that policy-makers are not distracted by differences in valuation methodology, which though important, skirt around the central issue of systemic concern.

Distribution of funds products

One issue which I have not touched on, but which is very relevant to the need for tighter regulation of the investment management industry, is the distribution of funds products. In a world with historically low real and nominal interest rates and where developed world populations are living longer, the challenge of ‘low yields and longer lives’ must be addressed by the industry. Aging populations must provide for retirement and the funds industry is likely to play a greater role over time. In a well-functioning investment industry, the end-investor can trust the market to deliver a fair outcome. It is important that the industry recognises that cost transparency and product appropriateness will support a healthy long-term relationship between investors and the industry.

Effective regulatory intervention

Leaving aside the issue of prioritisation of the regulatory agenda, there is still the additional question of execution - or how that agenda is to be implemented. Surprisingly little has been written about effective regulatory intervention. To my mind, many commentators and policy makers have strong views as to what should be done but have less to say and are less familiar with ‘the prosaic craft of implementing regulation’. And yet, implementation matters as much as policy content. It would be a significant missed opportunity and a waste of public and private sector resources if poor implementation of the regulatory agenda were to lead to rules which did not achieve their intended purpose.

I see the task of delivering effective regulatory intervention as comprising of a spectrum of ever more intrusive activity which:

  1. starts with monitoring (through data collection);
  2. then analysis (of the data and the business models);
  3. then policy formation (which draws in political and social considerations);
  4. then regulation (which involves writing a rule book);
  5. then supervision (which involves monitoring compliance with the rules);
  6. then enforcement (which punishes rule breaches), and
  7. finally resolution (to mitigate the real economy effects of failure).   

 This spectrum of regulatory intervention becomes progressively more intense as each step is taken. Indeed, in an ideal world, it is a roadmap for regulatory intervention where each step is a distinct step which need only be taken if it survives a discrete analysis of the costs and benefits of taking that step.

What we have seen in recent years is an approach to regulatory intervention where some of the steps in the spectrum have been taken in haste or even in reverse order. As a matter of political process, this is understandable. But the execution risks are significant and this is likely to incur certain economic costs. And spill-over effects with other jurisdictions or other rule books (or both) are likely to lead to unintended and potentially undesirable consequences if the right sequence of steps is not taken.

Cost-benefit analysis in the social sciences is notoriously difficult. 26  But financial authorities can improve their approach to regulatory intervention by starting with closer monitoring of all financial activity – through regular financial reporting – and using this to determine the case for (or against) more intrusive regulatory intervention. 27


As a parting note, let's not forget that the purpose of the wider funds industry is to match end-investors with end-issuers. The production chain linking both ends comprises parties with significant responsibility: investment managers, administrators, custodians, legal and tax advisors and of course, fund directors.

And the purpose of regulation is to support this chain of activity of financial intermediation from end to end. In particular, this means helping all parties to make sensible decisions in the face of uncertainty, aligning incentives and reducing information asymmetries without harming competition all the while allowing risk-taking activity to happen.

In a world of weak banks, low yields, longer lives and greater reliance on self-directed pensions, industry must work hard to build trust and provide reliable solutions to investors. Regulation must seek to support this process.

The evolving nature of financial intermediation and the blurring of the lines with other sectors will mean that industry attracts greater regulatory scrutiny. Such scrutiny necessarily requires that financial authorities will seek to monitor activities more closely and understand the potential for systemic risks to crystallise.

The issues of run-risk leading to credit interruptions and lack of incentive alignment leading to poor loan origination are key concerns for financial authorities in the wake of the financial crisis and have encouraged their heightened interest in the investment management industry and all other sectors that engage in ‘bank-like’ activities.

In addition, industry needs to reflect on the political and institutional process driving the content of regulatory reform and also find ways to engage more actively in how regulatory intervention is being delivered.


De Larosière, J., (2013),

Ferran, E., Moloney, N., Hill, J., and Coffee J., (2013), "The Regulatory Aftermath and Global Financial Crisis", Cambridge University Press

Financial Stability Board (2009), “The Financial Crisis and Information Gaps”, FSB Report to the G-20 Finance Minister and Central Bank Governors, November 2009.

Haldane, A., (2009), “Rethinking the financial network”, Speech delivered at the Financial Student Association, Amsterdam

Honohan, P., (2009), “Can cost-benefit analysis of financial regulation be made credible?”, chapter 9 in “Handbook of research on cost-benefit analysis”, ef. Robert J Brent, Cheltenham, Edward Elgar

IOSCO (2003), “Objectives and Principles of Securities Regulation

Laeven, L., and Valencia, F., (2012), “Systemic Banking Crises Database: An Update”, IMF Working Paper

National Institute of Economic and Social Research, (2012), Financial Stability Conference, “NEVER AGAIN?”

Matheson, T., (2011), “Taxing Financial Transactions: Issues and Evidence”, IMF Working Paper

McKinsey Global Institute (2013), “Financial Globalization: retreat or reset?”

Murphy, G., and Westwood, R., (2010), “Data Gaps in Financial Stability”, Irving Fisher Conference, Basel.

Tafara, E., (2013), "Observations about the crisis and reform", foreword in "The Regulatory Aftermath and Global Financial Crisis", Cambridge University Press

TheCityUK (2012), “Fund Management”, Financial Markets Series, November 2012.

Wright, D., (2012), Remarks by the Director General of IOSCO at the Atlantic Council, Washington


1 McKinsey Global Institute (2013)

2  TheCityUK (2012)

3 Growth in UCITS products averaged 18% during the 1990s and 4.5% since 2002. Growth in the hedge funds sector (measured by assets under management (AUM)) has averaged 20% in the last 20 years.

4  See and

5 Which is the outcome of supply and demand

6 Such as the LTCM/Russian default crisis of 1998, the bursting of the dotcom bubble in 2000/01, the corporate scandals which broke in 2002, the second Iraq war in 2003 and the once in a century financial crisis of 2007/08.

7 See Ferran et al (2013)

8 ibid

9 Coffee Jr (2013) “The political economy of Dodd-Frank: Why financial reform tends to be frustrated and systemic risk perpetuated”

10 See Matheson (2011)

11 See  and

12  See Laeven and Valencia (2012)

13 For example: CRD IV, SSM, R&R, MiFID II, EMIR, PRIPS, UCITS V and VI, SSR, CSDR, PD II, TD II, MAD/MAR, Solvency II and of course AIFMD.

14 See David Wright (2012)

15 See De Larosière (2013)

16 National Institute of Economic and Social Research (2012).

17 IOSCO (2003)

18 CIA World Factbook and McKinsey Global Institute (2013)

19 See Bank for International Settlements, November 2012

20 See Murphy and Westwood (2010)

21 See Haldane (2009)

22 See the various FSB documents at:

23 See the foreword by Tafara in Ferran et al (2013)

24 Note the 'skin in the game' amendment to Article 122a of the Capital Requirements Directive 2009/111/EC which sought to align bank originators with the interests of investors of securitised notes.

25 See IOSCO October 2012, FSB November 2012 and ESRB January 2013.

26 See Honohan (2009)

27 The key pillars which support this framework are a) data collection and b) business model analysis c) the political and social mandate which determines the appetite to intervene, d) the supervisory framework (which determines the intensity of supervision and the appetite for enforcement) and e) the legal system (which provides the toolkit for financial authorities).