Book Description

In recent years misconduct issues have often arisen across markets and systematically important banks. As a result, there has been a notorious and exacerbated crisis of public confidence in the financial sector. It causes customers of financial services to be deterred from using the system and thus compounding the problem of stability even further. Hence, policymakers and supervisors are called upon re-thinking priorities when regulating financial business, turning to areas such as culture, conduct, integrity, and ethics, as means to guarantee the integrity of the entire financial industry. Traditionally, it has been argued that the key element to rule conduct in the financial sector is the coordination between macro and micro prudential policies, aiming at restoring public confidence and protecting market stability. The proposition is that today's micro-prudential regulation, which is focused on individual institutions and instruments, must be strengthened and supplemented by macro-prudential regulation of the financial system. The reason is that macro-prudential regulation recognises the risks to the entire financial system, and seeks to fix the mismatch between risk-taking and risk capacity within firms, specially the highly interconnected firms.This paper proposes that such integration between macro and micro-prudential policies is complemented by means of designing and implementing a coherent risk-based approach to regulation and supervision that lies on three areas: i. comprehends the multiple dimensions of conduct risk and how it is perceived by regulators and regulated firms and individuals, ii. considers the psychological elements of the decision making process, and how human judgements about risks are affected by external factors, and iii. the two previous elements contribute to build a concept of “conduct risk” and how it could be better managed by prioritising conduct of business rules, as one of the pillars of the risk-based approach to regulation. The argument put forward here is that risk-based regimes facilitate the identification, management and mitigation of conduct risk in financial markets. Conduct risk defined as a type of operational risk that involves the actions and omissions of financial institutions and individuals within, regarded as misconduct, unethical and corrupt practices.