A robust regulator: A fundamental ingredient in a sustainable market economy

I first published an article with the above-mentioned title in the ‘Accountant’ (now ‘Abacus’), the magazine of the Institute of Chartered Accountants of Sri Lanka (CA Sri Lanka) in February 2009. I had this published in several papers in the print media in subsequent years during the tenure of the previous political regime. 

Thought Leadership Forum of 2005 - an awareness building initiative

My motivation to put pen to paper and to invest time to think creatively, if I may say so, even to decide on the caption, was to generate visual impact on the reader to “build awareness” on the subject matter since I firmly believe in “a Market Economy but with desirable and effective regulation.” 

It has been more than two and a half decades, that I have published my thoughts on this topic and articulated my views thereon, in a column titled ‘The Thought Leadership Forum’, which I launched in 2005, and also engaged in debates on this topic with those in various professions and in politics, whether they were green, blue, red or saffron. 

CBSL, regulatory forbearance, political interference - the trigger to write again

The press conference of the Central Bank of Sri Lanka (CBSL) on 2 January 2018, the press releases and media publicity over the last few days, including the Governor’s statements in the presentation of the Road Map, which I read in the media, prompted me to reminisce about the relevant issues, the yet unresolved matters and to invite the media to republish this article. Of course, let me share thoughts on the background first. 

What was of particular interest is that the Governor, as reported in the print media on 3 January 2018, publicly stated: “The Central Bank has experienced a five-month period of regulating the financial system minus political interference, and a number of initiatives have been undertaken to improve the Central Bank’s regulatory capacity. He explained that the Central Bank had been constantly criticised, especially for its attempts to regulate the financial system, at the sittings of the Cabinet Committee on Economic Management (CCEM) and that he had each time explained that political interference had resulted in regulatory forbearance.

“So they said they would end political interference,” Dr. Coomaraswamy had said. 

January 2015 - ministerial portfolio realignment 

Reminiscing over what motivated me to have this 2009 article republished in January 2015, a few days after the new President and Prime Minister took office, I observed that I said: “I was pleased to learn that regulatory authorities such as the Central Bank, the Securities and Exchange Commission and the Public Utilities Commission will come under the purview of the office of the Honourable Prime Minister Ranil Wickremesinghe and the Ministry of Policy Development and Economic Affairs.” 

January 2015 - my expectation of a mutually respectful partnership

I further stated: “I am hopeful of course that the Ministry of Finance will work in close consultation and cooperation with the Ministry of Policy Development and Economic Affairs, which is under the office of the Prime Minister. I am also hopeful that given that the Prime Minister has many decades of history of not interfering with the Central Bank of Sri Lanka, and Dr. Harsha De Silva is an Economist who understands the raison d’etre of a Central Bank, the independence of this institution will be restored.” 

Harsha in Siberia but now back in the saddle

Having written as I did above, in the latter part of 2015, I tried to connect with our now Deputy Minister Harsha, to urge him to be proactively involved with the CBSL and SEC and he replied “I am now in Siberia”, given his new role in the Ministry of Foreign Affairs. Of course he engaged successfully in economic diplomacy, a necessary pillar of economic policy, which I have myself been advocating, but I am glad he is back and we need him to stay put. 

When Governor Mahendran was replaced with Governor Coomaraswamy, I said publicly that I was hopeful that all within and outside the wonderful institution that the Central Bank is, would extend to him their fullest cooperation. Regardless of which religion, which faith, which political party, which faction of the coalition of national unity, which profession, business, or occupation, or which Whatsapp or Viber group of mobile and social media armchair critics (and there are many good and potent thoughts from a number of them) one belongs to, extending co-operation and wishing him well will indeed will be the ‘done’ thing to do. The country needs to move upward, onward and forward together. Enough is enough with the distractions. 

The courage to resist, the need to engage, the responsibility to act 

As I said in January 2015, “Since the environment for intellectual discourse via the print and electronic media and in open fora has been presented with a new lease of life, I like to represent my thoughts titled ‘A Robust Regulator - A fundamental ingredient in a sustainable market economy’, since many of the thoughts here may be of relevance today. 

In the interest of space and time, I will reproduce only select paragraphs from that 2009 article. I hope it conveys the thought that there are lessons to learn, a need not only to have the intellectual capacity to recognise lapses of corporates but also the courage to take regulatory decisions – even a delayed decision is better than no decision at all. There is a need for consistency between political platform speeches and delivery once in the saddle. There is also a need for professionals to realise that perseverance pays.

The following is the republished 2009 article titled ‘A robust regulator - A fundamental ingredient in a sustainable market economy’ authored by me for The Accountant.

“The subprime crisis (the Global Financial Crisis - the GFC) has engaged our minds for well over a year and a half now and throughout this period I have often reflected on the East Asian Financial Crisis of 1998 - a crisis which is now 10 years old. The devastation it caused to a large region of the world, several economies and people, continues to be etched in the minds of many. I yet remember visiting many ASEAN cities in 1998 and 1999 while on work and pausing to devote time to gain firsthand insight into the causes and consequences of this sad event. I was particularly pleased to see the region bounce back before long. 

Have we learned any lessons?

There were many similarities between the asset quality of the banks in East Asia in 1998 and those in some of the bank crises in the USA last year and it is now established that risk identification, management and mitigation at the corporate governance level was weak while oversight and effectiveness at the national or sectoral, regulatory level was inadequate. This was an enabler of the subprime crisis. 

While much has been written on the East Asian Financial Crisis and many diagnostic studies and debates undertaken; many conferences held, many technical assistance programs rolled out by the IMF, the World Bank, the Asian Development Bank and many other bilateral development partners, the question yet remains whether the banking and financial services sector, the housing sector or the regulators of particularly the western world - whether in Europe or North America - have actually learned from these lessons? 

APB Annual Sessions - 2000 and the Korean Chaebols

At a presentation I made to the Association of Professional Bankers in Sri-Lanka in the year 2000, at its Annual Sessions under the theme ‘Towards a Safer Banking System’, I introduced a special segment on ‘Learning from the Lessons of the East Asian Financial Crisis’. 

I quoted Arthur Levitt, Chairman of the US Securities and Exchange Commission, as follows: “The significance of transparent, timely and reliable financial statements and its importance to investor protection has never been more apparent. The current financial situation in Asia and Russia (1998) are stark examples of this new reality. These markets are learning a painful lesson taught many times before: investors panic as a result of unexpected or unquantifiable bad news.” 

Quoting from my research of an UNCTAD study, which had surveyed a few companies affected by the crisis, I conveyed that: “The Chaebols dominated the economy of the Republic of Korea. These conglomerates often engage in related party lending and borrowing. None of the sample companies disclosed the amount of related party lending and borrowing; less than half of the sample companies made reference to the existence of related party lending and borrowing but without disclosure of the amount; none disclosed the amount of foreign debt in the currency of repayment and not a single corporation or bank followed IAS’s in accounting and reporting for foreign currency translation gains and losses.” 

This was only of a sample taken and prior to 1998! But yet recent enough. I also referred to the President of the World Bank, when he referred to South Korea as follows: “The culture of the region has not been one of disclosure. If you go back further it was a culture of a smallish number of wealthy people. It was an agrarian society with a lot of people in the country and significant factors of power. It is reflected in the Chaebols. It is reflected in the groups that come together. There were centres of power. There was little disclosure.”

I wonder what Arthur Levitt and Australian-born Jim Wolfensohn, who was Chairman of the International Advisory Board of Citigroup after his 10-year stint at the World Bank, had to say for themselves in 2001/2002 after Enron and WorldCom collapsed, and more recently after the US inflicted on itself the 2008 subprime crisis which then ‘exported’ itself from the ‘Land of the Brave and the Home of the Free’ to all of us in the rest of the world. 

Interestingly, in my capacity of President of the Confederation of Asian and Pacific Accountants (CAPA - a 23-nation body) in a message to the CAPA chronicle, the monthly newsletter of the Confederation of Asian and Pacific Accountants in 2002, I said: “In the aftermath of the East Asian Financial Crisis, western nations in particular and corporate leaders, regulators, scholars and authors of the West were critical of the East and South East Asian nations, their statutory and regulatory systems, the auditing profession in these countries, accounting and auditing standards and compliance therewith. Their criticism was liberal and in many respects justified.  But what is more important I think is whether regulators, professions and corporate boards of even the developed nations in the West are yet as vigilant as the global society inherently expects them to be.” Source: February 2002 Chronicle (The CAPA Newsletter)

Sri Lankan Chaebols?

In Sri Lanka over the last few months I have been witnessing with considerable sadness the plight of many after the collapse of finance companies here - particularly Golden Key. While there may be a number of large depositors, I more recently came to learn that this was also the investment vehicle of several simple, hardworking, wholesome people, some of whom had deposited their only ‘cash assets’ and lived ordinary lives in their homeland in order to educate their children overseas. 

My mind went back to the following sentiment I expressed in 2002 to the Confederation of Asian and Pacific Accountants, which may provide any reader with a ‘heart and mind’-driven rationale for strengthening professionalism and governance: “The collapse of the economies of nations - such as what happened four years ago in East and South East Asia, or the collapse of corporates - such as what happened in none other than North America, a few months ago, can be disruptive. It can devastate what otherwise could have been only a continuation of a simple and less than extravagant lifestyle for many who are less privileged than those at the higher levels of governance who are typically better cushioned to absorb the shock and disruptions these events bring. It is this segment of society that I particularly wish to identify and empathise with, since it is only through them that we realise the gravity of the implications of subpar professionalism or poor governance.” Source: February 2002 Chronicle (The CAPA Newsletter).

Surveillance of financial conglomerates

It is in this context that I wish to quote from the Central Bank’s current (March 2009) website in its webpage on Financial System Stability and under the subsection ‘Surveillance of Financial Conglomerates’. The site refers to an initial report of a Working Group of Regulators for Financial Conglomerates “to be completed in early 2007”.  The full extract of the relevant section is as follows: 

Surveillance of financial conglomerates: 

“The existence of large financial conglomerates, especially those that have banks as part of the conglomerate, is another area that has attracted increased supervisory concern in recent times. The regulation and supervision of such financial conglomerates is becoming increasingly more important and complex due to the potential systemic risk that could arise from the interrelated nature of their activities. 

Large numbers of cross shareholdings, common directors and inter company transactions are areas that are of key interest in this regard, as it could result in conflicts of interests and abuse of power, which would not augur well for the stability of the financial system. Since there are multiple regulators in the financial system, the supervision of conglomerates often falls under the purview of several regulators, requiring close co-operation and supervision. 

Therefore, a Working Group of Regulators for Financial Conglomerates comprising the Central Bank, the Insurance Board of Sri Lanka, the Securities and Exchange Commission of Sri Lanka, the Accounting and Auditing Standards Monitoring Board and the Department of Registrar of Companies has been established to monitor the systemic risk of conglomerates. The mandate of this working group includes identifying and defining financial conglomerates; identifying the functions of the separate regulators; assessing the systemic risk of such conglomerates by sharing necessary information among regulators; recommending a course of action for regulation and supervision of the respective institutions in a consolidated manner; and proposing necessary legal reforms to address the existing limitations relating to regulation and supervision of financial conglomerates. The initial report of the Working Group will be completed in early 2007.” (Extract of current Central Bank Website - March 2009)

It is now a national imperative that the outcomes of this Working Group (if it had been completed) are critically reviewed to determine where it is incomplete in relation to the Central Bank’s regulatory oversight and effectiveness.  

Perhaps we could have saved the moneys of depositors and the public moneys that would now go towards bailouts and stimulus packages if greater attention was paid to surveillance of financial conglomerates. 

Regulatory Oversight (Scope) and Effectiveness audits

Now is the time to get back to the drawing board regarding this matter. I raised this issue at a Transparency International Round Table Discussion in February/March 2009. My recommendation was that the ‘Regulatory Oversight (Scope) and Effectiveness of all regulators, in the Financial Sector, in particular, must be subjected to a rigorous review. Not only the Central Bank but also institutions such as the Securities and Exchange Commission of Sri Lanka, the Accounting and Auditing Standards Monitoring Board and the Insurance Board of Sri Lanka should subject themselves to this review. I am pleased that this recommendation was accepted and is embodied in a letter the Executive Director of TISL, J.C. Weliamuna, has written to the President of the country.

Enabling statues will also have to be studied to determine whether the desirable scope and regulatory coverage or oversight of these institutions is not constrained by inadequate statutory provisions. Risk mitigating or minimising measures such as deposit insurance, which has been tossed around for over a decade and half or more in this country, must now be identified and implemented. 

The Market Economy and sustainability of political parties

Once the above is done, a key consideration will be to then determine “institutional capacity inadequacies” (human/technical) and to design and implement capacity building initiatives. The jurisdiction or remedy the consumer protection provisions of the Consumer Affairs Authority Act have over Banking, Leasing, Finance and related firms, their products and services should also be reviewed. The role of the Financial Ombudsman in this regard may also require to be studied. Then, the less than aware ‘mantra’ that the Market Economy has failed will also subside. 

A Market Economy is not one where there is freedom of the wild entrepreneur or philanthropy without conscience or responsibility to the source of money that enables it, but one driven by an economic strategy, with desirable and effective regulation.  

While recognising that I may be swimming against a global tide, whether catalysed by Sarkozy in France, Chavez in Venezuela or even by pockets in America, let alone in Sri Lanka, may I make bold to submit that the concept of a Market Economy with regulation has been tried and tested, is sustainable and is indeed here to stay. 

Sustainability of political parties on the other hand can well be made the outcome of all this, since aware, fair, objective and timely regulation will endear people – the depositor, the investor, the consumer, the voter, to the political party that facilitates it rather than one which stifles it, thus enabling the voter to enjoy a more affordable and comfortable lifestyle. 

This is about a lifestyle where the Government focuses its scarce resources on necessities like health, education, water and electricity, roads and communication, etc. and ensures the robust regulation of all of it rather than a contrary strategy - one where Government focuses on intervention and ownership of banks and businesses, which in an yet emerging economy such as ours, can well be at the expense of a better lifestyle for the less than privileged.” 

[The writer is a Chartered Accountant and Independent Management Consultant who has engaged in policy dialogue for more than two decades in Sri Lanka. He is a Past President of the Institute of Chartered Accountants of Sri Lanka and Past President of the 23-nation strong Confederation of Asian and Pacific Accountants (CAPA). He has contributed to the public sector in Sri Lanka as a member of the Securities and Exchange Commission of Sri Lanka; member of the first Consumer Affairs Council under the Consumer Affairs Authority Act; member of the Accounting and Auditing Standards Monitoring Board; Chairman of the Monitoring and Advisory Committee of the Ministry of Power and Energy; member of the Governing Council of the National Institute of Business Management and member of the Board of Management, the Post Graduate Institute of Management.]