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Securities regulators adopt new principles and increase focus on systemic risk

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The International Organization of Securities Commissions has published its revised Objectives and Principles of Securities Regulation to incorporate eight new principles, based on the lessons learned from the recent financial crisis and subsequent changes in the regulatory environment.

The eight new principles cover specific policy areas such as hedge funds, credit rating agencies and auditor independence and oversight, in addition to broader areas including monitoring, mitigating and managing systemic risk; regularly reviewing the perimeter of regulation; and requiring that conflicts of interest and misalignment of incentives are avoided, eliminated, disclosed or otherwise managed.

The principles, which are an agreed set of high-level global standards, outline the basis of an appropriate, effective and robust securities regulatory system. They also play an important role in promoting a sound global financial regulatory system through their use by the International Monetary Fund and World Bank assessors in the performance of the securities sector element of country financial sector assessment programmes.

Jane Diplock, chairman of the executive committee, says: “The global spotlight is focused on financial regulation, its form and function and regulatory outcomes, as the world strives to emerge from the greatest financial crisis in recent times it is challenging regulators to provide cogent answers. In our Iosco meetings this week we have risen to that challenge and accomplished a significant reform of the basis for global securities regulation.
“We have achieved this through the formulation of eight new principles of securities regulation which are to be implemented globally including, very importantly, two principles addressing systemic risk in markets. Where traditional economic orthodoxy has considered systemic risk to be only a matter for prudential regulators, the financial crisis has shown us that financial stability depends on both of the virtuous twins of effective market regulation and effective prudential regulation.”
The new systemic risk principle recognises the need for regulators to be conscious of systemic risk and the role they play in relation to it. The financial crisis has highlighted that financial markets which Iosco members regulate, or may be exempt from regulation, can be the mechanism by which risk is transferred within the financial system. Under the new principle the regulator should have, or contribute to, regulatory processes to monitor, mitigate and appropriately manage such risks. Regulators should have particular regard to investor protection, market integrity, transparency and the proper conduct of business within markets as contributing factors to reducing systemic risk.
The eight new principles added to the current 30 are:

• Principle 6:  The regulator should have or contribute to a process to monitor, mitigate and manage systemic risk, appropriate to its mandate;
• Principle 7:  The regulator should have or contribute to a process to review the perimeter of regulation regularly;
• Principle 8: The regulator should seek to ensure that conflicts of interest and misalignment of incentives are avoided, eliminated, disclosed or otherwise managed;
• Principle 19:  Auditors should be subject to adequate levels of oversight.;
• Principle 20:  Auditors should be independent of the issuing entity that they audit;
• Principle 22:  Credit rating agencies should be subject to adequate levels of oversight. The regulatory system should ensure that credit rating agencies whose ratings are used for regulatory purposes are subject to registration and ongoing supervision;
• Principle 23:  Other entities that offer investors analytical or evaluative services should be subject to oversight and regulation appropriate to the impact their activities have on the market or the degree to which the regulatory system relies on them; and
• Principle 28:  Regulation should ensure that hedge funds and/or hedge funds managers/advisers are subject to appropriate oversight.

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