Financial System Inquiry

Previous financial system inquiries have played significant roles in reshaping the nation’s economic and regulatory frameworks. The Campbell Report in 1981 led to the floating of the Australian dollar and the deregulation of the financial sector. These developments are viewed as the major policy catalysts that underpinned our modern economy.

The Wallis Inquiry in 1997 led to the ‘twin peaks’ regulatory model that created Australian Prudential Regulation Authority (APRA), and the current form of the Australian Securities and Investments Commission (ASIC). These reforms did much to protect Australia’s economic stability and prosperity in recent years.

This current Inquiry is accepting submissions from interested parties and key stakeholders. The Committee will consider the submissions and produce an interim report by mid-year. The Institute will have the opportunity to comment on that paper and then the Committee will present its final report to the Treasurer, in November. The Treasurer will consider the report and make recommendations to the Government.

The actuarial profession, through the Institute, has an important role to play in the Inquiry process. Actuaries work in a world of uncertainty, They investigate experiences and use financial projections to make sense of what is occurring in the key segments of the financial system; life and general insurance, health insurance, banking, superannuation and investment. Our insights into what is occurring in those segments and the reasons why give the profession a special understanding of emerging systemic risks.

While the current system showed resilience and flexibility and allowed Australia to weather the worst aspects of the GFC, new forces – demographic, technological, economic and societal – are at work that demand we take stock of the financial system and measure its capacity to deal with emerging challenges.

David Murray is keen to get the profession’s views particularly on the topics of demographics and regulation. Accordingly, with the help of a special working group and our practice committees we have prepared a submission to the Inquiry with the following recommendations:

1. Adopt a comprehensive framework for policy formulation on all issues relating to sustainable financing of our ageing population.
2. Establish a Financial System Policy Commission (FSPC) whose role is to put forward comprehensive policy options on how to manage the financial system over the longer term to ensure it delivers optimal outcomes for the consumer and the nation. We are not seeking more regulation just more efficient regulation.
3. Create an open data regime to allow increased access to and analysis of important government held data and modelling information to better manage macro risks to the financial system.

The first recommendation stems from a view that despite the size and importance of the retirement income system it has developed in an incremental fashion that has created inefficiencies that may impact retirement policy objectives.

The Institute argues that a comprehensive policy framework must involve:

• Setting overall targets for financing the ageing population e.g.:
  – Retirement income levels
  – Age pension costs, levels and coverage
  – Aged care costs
• Establishing principles for policy formulation:
  –  Consistency
  –  Adequacy
  –  Affordability
  –  Sustainability
  –  Simplicity<
  –  Flexibility<
  –  Equity
  –  Certainty
  –  Clarity

Once such a framework is established it can reduce the potential for political ‘tinkering’ to achieve shorter term fiscal or political objectives. This will lead to great stability, certainty and consumer confidence in the retirement income system.

The Inquiry is also looking to understand how the principles of competition, efficiency, stability and consumer protection underpin the financial system and what risks exist to maintaining a strong regulatory system. Actuaries create financial models to help understand risks and assist enterprises to formulate systems to manage adverse outcomes.

Regulation cannot, and should not, completely de-risk the system but should aim to strike the right balance between innovation, competition and stability. There is a view that domestic regulation may be reducing risk without balancing it against the associated costs. Part of the problem is that the current regulatory framework does not work effectively to manage issues that fall across more than one regulator or are outside all regulator regimes.

Accordingly, the Institute recommends the establishment of designated, independent body to put forward coherent financial service policy, adjudicate on inconsistent policy interpretations by sector regulators and identify emerging systemic risks. Our working title for this body is the Financial System Policy Commission (FSPC) which would operate in a similar manner to the Productivity Commission. The Commission could assist the Government to:

• Develop and maintain a comprehensive financial services sector policy framework that balances affordability and sustainability with equity and fairness.
• Establish the overarching framework for policy formulation on all issues relating to financing of our ageing population.
• Balance prudential regulation against the broader public interest, cost and competition.
• Consider the cost of risk including the question of ‘Too Big to Fail’
• Examine affordability and distortionary effects of financial system policy.
• Gauge the efficiency and effectiveness of consumer disclosure.
• Expedite the rationalisation of legacy products.
• Clarify regulatory inconsistencies.

We are also asking the Inquiry to help the profession better serve its stakeholders by allowing actuaries and other appropriate groups expanded access to important government held data and models. An actuary’s technical skills include the collection and analysis of data to build the models that allow many sectors of the financial system (e.g. general and life insurance, superannuation and banking) to manage risks. While currently available statistics provide insights into particular financial sector activities, it is far more difficult to obtain a system-wide, sector, market or individual view of emerging risk dynamics and behaviours.

Consequently, we have recommended the creation of an open data regime to:

• Allow increased access to and analysis of important government held data and modelling information to better manage macro risks to the financial system.
• Refer regulator data collection requests to the FSPC to assess the costs, confidentiality and benefits of the request. Potentially representatives from the professions and universities that are likely to be users of the data and the industry as the providers of data could also be involved.
• Allow industry and government to better understand the growing impact of the capital flows in and out of the retirement income system, and their macro-economic implications.

A copy of our submission can be found on the Actuaries Institute website.

Apart from participating in the formal processes of the Inquiry the Actuaries Institute has also offered to assist the Committee by providing ongoing access to the Institute’s expertise. We have already provided direct briefings to the secretariat and to David Murray and have provided additional background papers as well.

There will be further work to do once the Committee issues its interim mid-year report and we have a clearer picture of its priority issues. Clearly this will create further work for the Institute but also a great opportunity for the profession to make a strong contribution to this important public policy debate.

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