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SBP oversight of NBFCs to undermine SECP authority

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Points of Essence:

  • The Securities and Exchange Commission of Pakistan (SECP) insisted that the regulation/supervision of Non-Banking Finance Companies by the State Bank of Pakistan would undermine the authority of the SECP.
  • This is in response to the SBP’s proposal for the transfer of the supervision of certain NBFCs to SBP in making SBP as the lead regulator of financial conglomerates. The argument relied by SBP were firstly, as to what constitutes deposit taking and secondly that SBP will be able to reduce the risks involved for public or somehow supervise the sector more efficiently.

'SBP oversight of NBFCs to undermine SECP authority' ISLAMABAD, The Securities and Exchange Commission of Pakistan has said that there is no guarantee of effective regulation/supervision of Non-Banking Finance Companies within the purview of the State Bank of Pakistan, as unreasonable powers for monitoring financial groups by the central bank would cause a major dent in the writ and authority of the primary regulator ie SECP.

Strongly responding to proposal of SBP, the SECP has submitted a detailed response, supported by legal arguments/international banking data, to the Ministry of Finance as well as the central bank.

Sources told on Friday that the central bank had proposed transferring supervision of certain NBFCs to SBP as well as making the bank as the lead regulator of financial conglomerates. The SECP has conveyed its viewpoint to the Finance Ministry/SBP in response to a meeting held on August 5.

According to the SECP, the proposal showed a narrow view is being taken by the SBP on what constitutes deposit taking and secondly it is based on the premise that the central bank will be able to reduce the risks involved for public or somehow supervise the sector more efficiently.

There is no guarantee that entities supervised by the SBP would not fail. The most recent case of Bank of Punjab is a clear example of such situation. Moreover, public is exposed to market risks not only in cases of deposit taking by these three categories of businesses, but also by collective investment schemes ie mutual funds, pensions funds, etc, modarabas, insurance companies, certificate of deposits and investments (COI/COD) and also brokerage businesses. Does that mean all these sectors should be moved to the State Bank? Of course not, the SECP stated.

It is unfortunate that the central bank has not consulted the regulator of the corporate sector, capital markets and non-banking financial sector for finalising such proposals. More disturbingly, the SECP has been informed that these proposals are being included as conditionalities in the Asian Development Bank’s financial assistance programme known as the Pakistan-Accelerating Economic Transformation Programme, the SECP opined.

The SECP, in the past, has been party to negotiations held with donor agencies on different assistance programmes. All concerned government departments and other public sector agencies are not just kept involved but actively participate in such negotiations to present their viewpoint and the stakeholders involved. It is surprising that this time, being such an important stakeholder and directly affected by these proposals, we have been kept out of these negotiations.

The SECP further said: It follows naturally that the market players were also not consulted prior to making the proposals and have been caught unaware just as us. It is therefore apparent that both these proposals have no support from the most important stakeholders, and are therefore not based on any consultative process or independent analysis.

The SECP said that the first proposal is the transfer of supervision of three categories of NBFCs ie investment banks, leasing companies and housing finance companies to the SBP. The justification provided by the central bank is that these companies are involved in taking deposits from the public and therefore should be placed under the SBP’s supervision, along with banks. No definition of the term deposit taking has been offered in the proposal, which leaves this argument open as to what constitutes deposit taking, and which companies and institutions fall under this category.

The analysis of international banks showed that the role of central banks as banking and financial supervisor is diminishing. Out of 143 countries, in case of 104 countries the central bank either has no direct supervisory responsibilities. Hence, the State Bank’s effort to become the consolidated supervisor is indisputably against international best practices. If we are not moving in the direction in which the world is moving, at least we should not be moving in the opposite one, the SECP said.

The SECP has agreed that it is the central bank’s responsibility to ensure stability of the financial system, however given the minuscule size of these NBFCs and the deposits collected by them, there is no likelihood of any adverse affect on the financial system in the near future. The total deposits by all three categories of companies amounts to less than 1 percent of the total banking deposits, and the total assets of all three categories of companies amount to approx. 2.5 percent of the total banking assets. Also, given their small size these companies are likely to be supervised more efficiently and keenly by SECP rather than the State Bank. In fact the central bank’s policy of consolidation in the banking sector is likely to result in these companies being taken over through mergers and acquisitions by larger institutions. The SECP vision for these institutions on the other hand is entirely different, and the commission would encourage them in developing a niche market through innovation and competitiveness, the SECP said.

The supervision of these institutions was handed over by the SBP to SECP only a few years back. During last five years, the SECP has intensely worked to develop an effective, adequate and beneficial regulatory framework for this sector. The repeated changes done in haste and without any consultative process with the stakeholders is bound to result in confusion, disorder and ambiguity with no real or foreseeable benefit to the sector.

Another reason mentioned by the SBP for proposing transfer of these institutions is that it is not willing to offer liquidity support to those institutions, which are not under its supervision. Firstly, SECP has not requested the SBP to offer liquidity support to any of the institutions under its supervision. The question that begs the Finance Ministry attention is that whether the post privatisation scenario it should continue to guarantee solvency of privately owned institutions. Should the managers of these institutions be allowed to think that they can continue to take risks as GoP and the State Bank would be forced to intervene and bail them out? As per SECP viewpoint, the laws including the prudential regulations need to be strengthened to firstly reduce the risks of failures and secondly, where failures do happen, the persons responsible for them including the sponsors and shadow directors are held accountable.

About the group regulation, the second proposal of the SBP on consolidated supervision of financial groups is even more worrisome due to the sweeping effects it would have on the overall regulatory framework of the non-financial sector, and also due to powers being proposed for the State Bank. Once again, no consultation has taken place on the proposal, the SECP said.

Presently, no one definition of the term group is in place. The Companies Ordinance, 1984 it seems has purposely not defined the term. The definition given in the Prudential Regulations of the State Bank, if used for purposes of consolidated supervision, would result in unrelated companies being clubbed together as part of the group. The powers proposed to be given to the State Bank ie call for information; carry out inspections; take enforcement actions and make regulations for the entire group of companies, which would primarily include non-financial companies, would effectively turn it into a corporate as well as a securities regulator. This would not only detract SBP from its primary role of supervision of the monetary policy of the country and the banking sector, but would also result in overlapping of jurisdictions.

That in turn would cause confusion, ambiguity and regulatory arbitrage. Most importantly, it would cause a major dent in the writ and authority of the primary regulator for these sectors ie SECP.

Before a comprehensive and strict regulatory framework for groups can be put in place, it is vital to simplify the shareholding patterns in the corporate sector. Presently, patterns are overly complexed and designed to hide ownership’s. Only last year the government had taken the initiative to introduce the concept of ‘Holding Company’ structure in the country, and to this end offered fiscal incentives to groups who would be willing to adopt this concept. The State Bank proposal to regulate the financial groups at this stage would deter the groups from opening up and simplifying the shareholding patterns, the SECP said.

The SECP said that these proposals which are being included as conditionalities in the latest assistance programme by ADB contradict the conditionalities of the earlier Second Generation Capital Market Reform programme of ADB still under way.

The second tranche of the programme, which is still to be released, requires the GoP to introduce a new primary law for regulating the NBFCs, and which establishes SECP as the regulator and supervisor of all NBFCs and collective investment schemes.

Another conditionally of this tranche is the introduction of the new FSC Act to replace SECP Act, 1997, which also establishes SECP as the regulator of NBFC sector among others.

The proposal for excluding deposit taking institutions from the definition of NBFCs, and consequently the supervision of SECP was never raised or discussed during negotiations on the Capital Market Reform programme or even afterwards. Based on above reasons, it is not possible at this stage for SECP to agree to these proposals. The SECP therefore strongly opposes such proposals being made conditionalities to the assistance programme for Pakistan, the commission added.


Written by Suapi Shaffaii

August 10, 2008 at 12:37 pm

Posted in General Issue

Tagged with ,

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