Evidence is mounting that Australia’s dual regulation approach to financial services is outdated. Is it time for APRA and ASIC to become one, asks Professor Michael A Adams?A decade on from the Wallis report, the financial services sector is worth more than $2 trillion and superannuation alone, according to the Australian Prudential Regulation Authority, accounts for more than $800 billion. We have to ask whether the status quo is the most effective and efficient system of regulation.

Recent media coverage has fuelled the debate, reporting that both the Federal opposition and senior business leaders believe that Australian business would be better served by a single, merged regulator.

This begs the important question whether it is necessary to have APRA, ASIC, the Reserve Bank of Australia (RBA), the Australian Taxation Office (ATO), the Foreign Investments Review Board (FIRB) and the Australian Competition and Consumers Commission (ACCC), to name just a few Commonwealth bodies, in this space.

There is clearly increasing momentum behind the argument that it is time to rationally review this structure.

It is easy to underestimate the importance of financial services in Australia. In fact, the financial and insurance industries are the third largest sector in Australia’s economy, $62 billion or 8.5 per cent of GDP, according to Treasury. To put this into context, financial services represents more than twice the value of agriculture, fishing and mining combined. This has a particular degree of importance in the area of superannuation and the long-term savings plans of all Australians. The political importance of confidence in the securities markets meanwhile, is reflected in the ASX annual report for 2004 which stated that “55 per cent of the Australian adult population, or approximately eight million people, owned shares directly or indirectly (via a managed fund or self managed superannuation fund). This was a significant increase from 51 per cent in 2003 and 50 per cent in 2002”.

The current regulatory trio governing and overseeing the financial sector was the product of the 1997 Wallis report and Commonwealth Department of Treasury, Financial Markets and Investment Products –Corporate Law Economic Reform Program Proposals for Reform Paper No. 6 (usually known as CLERP6). This regulatory structure was founded on the rationale of dividing regulatory territory along functional lines. This thrust for change came about with the Commonwealth Treasurer’s initiative in 1996 to review the regulatory landscape in view of financial deregulation in the 1980s and incorporating the challenges confronting this sector amidst global financial competition. The objective was to clearly devise a regulatory regime to enhance Australia’s financial sector’s competitiveness.

It can be seen that there appears to be a sub text of ‘competition and efficiency’ in the financial sector, which the Wallis report states as: a principal aim of the Inquiry is to achieve a more competitive and efficient financial system. Even a 10 per cent improvement in efficiency would translate into cost savings for the economy in excess of $4 billion per annum.

This can be contrasted with the reality of a recent KPMG study, which was reported in Risk Management magazine October 2005 as follows: “Australia’s largest financial institutions will spend in excess of A$100 million on compliance, but few are likely to see much return on investment unless attitudes change, a new report has warned… At the heart of the issue, according to the study from KPMG, is the prevailing attitude among Australian financial institutions that compliance is a cost, with the need to comply outstripping the need to comply in a way that engenders positive business outcomes.” This seems to be a long way short of a $4 billion saving based upon a $40 billion industry as outlined in the Wallis report.

Regulation of financial markets

At a more fundamental level, regulation is not always the most effective and efficient way to correct market failures. Regulation can be costly both in terms of direct cost and the creation of unwarranted confusion over too many requirements. In addition, detailed, extensive and over prescriptive rules can also be a cause of market failure with regulatees bypassing the regulatory grid due to the over regulation of their activities. Therefore a single regulator, as opposed to multiple regulators, would be in a better position to assess the optimum mix of regulations, as well as how best to implement multiple regulatory requirements for any regulated entity.

Regulating the financial sector is complicated, especially for multiple product financial firms because each product might require different regulatory standards and the products offered might spill over into another regulatory area. An extreme solution would be to restrict the types of products or a firm to a single product.

In the Australian context, it is possible to examine the comparative data of APRA and ASIC from their last seven annual reports to get a feel for the relative costs and successes each agency has had in the area of financial services. The period 1999 to 2005 was selected as APRA only commenced on 1 July 1998, whereas ASIC (and its forerunner the Australian Securities Commission) commenced on 1 January 1991.

It can be easily observed that APRA is a much smaller organisation than ASIC with a more limited legal jurisdiction. However, the success rate of enforcement actions – whether criminal, civil penalty or enforceable undertakings – has been much higher for ASIC. It would make common sense to have a directorate of ASIC created to absorb the functions of APRA at a considerable cost saving. The experience of ASIC in enforcement, and their new memorandum of understanding with the Commonwealth Director of Public Prosecutions signed in 2006, could probably facilitate more enforcement actions across their jurisdiction.

Finally, the 2003 Uhrig report on public sector governance might provide some guidance on the attributes of effective and efficient government agencies, such as APRA and ASIC. The report states a well-governed organisation will clearly understand what it is required to achieve, will be organised to achieve it through the success of its executive management and will focus on ensuring it achieves its goals. In other words, by ensuring that the effort of an organisation is well directed, a well-governed organisation will be more efficient and more likely to produce effective outcomes. The review identified a number of elements that are central to the governance of entities, irrespective of whether they operate in the public or private sector.

Conclusion

There is sufficient evidence in the business community, among regulators themselves and academic literature, to determine that there must be a better way of doing business within the financial services sector. The cost of compliance is a real cost that is by its very nature being passed on to the final consumer. It is critical there is confidence in the securities markets and across all financial products and services. There is a genuine question to be answered in whether the current APRA/ASIC axis is an efficient and effective model of regulating superannuation and insurance. The duplication of licensing under the Australian Financial Services Licenses (AFSL) and the Registrable Superannuation Licence (RSE) must be one of many examples of a greater cost without any demonstrable benefit for consumers or members (beneficiaries) of superannuation funds.

Professor Michael A Adams is Professor of Corporate Law and Assistant Director, UTS Centre for Corporate Governance