Keynote Address


YBhg Tan Sri Zarinah Anwar, Chairman, Securities Commission Malaysia

at the

Emerging Markets Programme
“Capital Market Regulation Post Global Financial Crisis: Striking the Right Balance”

26 October 2009

Securities Commission Malaysia, Kuala Lumpur

Mr Greg Tanzer, Secretary General of IOSCO
Dato Ooi Sang Kuang, Deputy Governor Bank Negara Malaysia
Mr Lito Camacho, Credit Suisse, Singapore
Distinguished speakers, Participants
Ladies and Gentlemen

I am very pleased indeed to welcome you to the tenth Emerging Markets Programme (EMP). We are meeting during very challenging times when regulators in emerging markets are confronted with opportunities for making significant contribution to the global efforts to improve the resilience of capital markets and institutions, as a response to the global crisis. While earlier measures taken during and after the Asian crisis have helped financial sectors in emerging markets remain resilient, we are nevertheless cognizant of the impact of policy and regulatory failures that led to the global financial crisis.

The need for adjustment and further reforms are as important to emerging markets as it is to the developed markets. However, the task may be more challenging for emerging market regulators as we have a dual role to discharge, being responsible both for developing financial markets as well as regulating them. In the current reform efforts, we are therefore expected to strike the right balance between the needs of our economies for stable long-term growth, avoiding the massive fluctuations to which emerging market economies have often been prone, whilst also facilitating the orderly development of an innovative and competitive capital market.

It is therefore quite appropriate that the theme of this year’s EMP is the need to strike the right balance between supporting the development of vibrant markets through innovation leading to growth, whilst ensuring that they are properly regulated. With a team of high level experts as resource persons, this program offers opportunities for productive discussions and debate on how far the regulatory pendulum should swing back as a result of the crisis. In this regard, we are very fortunate indeed to have with us today, very distinguished speakers and panelists who will share with us their insights and perspectives on the challenges we collectively share.

Changing Dynamics of Financial Regulation

Ladies and gentlemen

The global crisis has also made us realize the need to examine more critically the role of financial services in our domestic economies. Financial services can expand in a safe and sound manner when it serves to meet the needs of the real economy. It is only through expansion of the real economy that wealth created is sustainable. We therefore can no longer assume that what is good for financial services is good for the economy and we have to bear this in mind when we allow new products to be launched in the name of innovation, market efficiency and growth.

This requirement for deeper understanding of products and their impact on markets and investors would by necessity mean that markets cannot be left to their own devices. A review of regulatory oversight is being undertaken, with already strong actions in many countries to extend the scope and coverage of regulations. The question is how much more regulation is required. How much and how far should the pendulum swing back? Do we need more regulation or just better enforcement of the rules that already exist? What will be in place by 2012 – the current deadline set by the September G-20 meeting for reform of the financial system?

The proposals for change in regulation that are being debated are many; and not all of them apply to emerging markets. The broad direction of these proposals affects the size and stability of financial institutions; capital adequacy ratios; hedge funds; OTC products; credit rating agencies; marked to market; corporate governance; and new cross-border macro-prudential arrangements.

It is a long list. In the time that I have, I would like to discuss those proposals which I believe are most relevant to emerging markets.

How Emerging Markets Fared Since the Global Financial Crisis

We have noted that many emerging markets e.g. those of Brazil, China and Malaysia, to name just a few, were relatively resilient to the damage wreaked by the crisis. For emerging markets, this has been in part due to the relatively nascent work in developing risk management frameworks, which has probably resulted in restraints in terms of allowing the sophisticated toxic assets that nobody could value when liquidity evaporated. Further, emerging market regulators have been exposed to crises of confidence in recent memory, and have substantially reformed their financial sectors. Implementation of financial regulation has been strict in insisting on robust balance sheets, higher capital adequacy ratios, and less leverage. Emerging economies have also taken pre-emptive actions before the onslaught of the global financial crisis, to prevent further destabilization.

For Malaysia, the impact of the crisis on the financial sector has been minimal.  This is a result of reforms taken during the Asian financial crisis to enhance financial stability and to promote capital market resilience, as well as favorable economic conditions.  In these circumstances, restrictive intervention measures were not required, as was the case during the Asian crisis. Indeed, the resilience of the financial sector during the current crisis has enabled Malaysia to sustain its schedule of market liberalization. In this regard, several policy announcements have been made to allow greater market access in the financial sector.  

Balancing Innovation and Efficiency against Stability for Investor Protection

One of the most important issues in the debate on regulation is what direction should regulation of capital markets take in light of greater integration of markets.

Let me be very clear that the objective of investor protection in securities regulation would always remain entrenched as one of the most fundamental responsibilities of securities regulation. But having gone through two crises within a decade, our experience instructs us that financial and systemic stability objectives in the design of financial regulation are not only becoming more important, but would need to be a determining factor in securing investor protection. I would even go further to suggest that putting in place systems and processes that manage systemic risks and hence, ensure financial stability, is core to sustaining long-term investor protection and promoting investors’ interests in the capital markets.

In this regard, we are of the view that the balance between innovation to inject efficiency and stability concerns must be “re-calibrated”.  Beyond the call for more control on trading practices as well as on institutions and products outside the regulatory mandate, stability objectives in regulation calls for adjustments in the approaches to oversight of the capital market and its intermediaries.

Ladies and gentlemen,

If one were to view that financial and systemic stability considerations are an integral part of financial regulation, then, any changes in the regulatory responsibilities of the financial regulator would need to incorporate the following new perspectives:

First, evaluation of systemic risks will now be a key consideration in the design of responses that would significantly impact the delivery of the function of regulators. Having a structured framework on the assessment of systemic risks will give a better chance of tracking emerging risks and designing prompt corrective actions.

The crisis lessons beckons capital market regulators to now apply this work to build knowledge of macro-economic linkages with the capital market to improve methodologies in estimating default risks in the capital market and its intermediaries.

Second, prudential regulation for both traditional capital market intermediaries and the so-called shadow financial institutions (which may attract regulation depending on their contribution to systemic risks) must evolve where risk capital becomes a more critical issue in regulatory oversight. In addition, macro-prudential regulation could also mean new considerations such as capital and leverage ratios.

Third, given the role of regulators to support financial stability, many experts have raised the issue of whether regulation needs to be counter-cyclical during periods of excesses. Is there scope for regulation to support other measures of an economic stabilization program, or should regulations be just limited to ensuring financial stability? Further, given the different objectives and mandates of different regulators in the financial sector, how do we develop a coordinating framework which will ensure that each regulator functions effectively to support a common stability objective?

Fourth, as financial markets are also integrated, coordination in risk evaluation and assessment amongst regulators become ever more critical. Significant lessons are being drawn from the global financial crisis, in that poor coordination amongst regulators can indeed deepen a crisis. As such, the challenge before us is developing a consultation framework and information sharing among relevant regulatory agencies which would take a new dimension of partnership towards a common goal.

Finally, the transparency tool could play an important role in managing systemic risks for stability. The issue before us is how best to manage disclosures to give early warnings of accumulation of risks, without adding to the costs of doing business and a disproportionate increase in the regulatory burden. 

Exercising Regulatory Responsibility to Contain Systemic Risks

Ladies and gentleman,

While securities regulators have started to look at risk management framework in their supervision of capital markets way before the global financial crisis occured, I believe that the issue of systemic regulation requires much further work. No doubt the responsibility for managing systemic risks must be shared by regulators, the issue before us is how best to share this responsibility. In Malaysia, the legal framework on regulatory responsibility for financial stability management is contained in the Central Bank of Malaysia Act. Effective September 2009, the amended Central Bank Act establishes Central Bank of Malaysia as the financial stability authority for the financial sector. Within this financial stability framework is the establishment of structured coordination processes, including the setting up of the Financial Stability Executive Council or FSEC which the Securities Commission is a member of, where the deliberations of the FSEC impact the capital markets.

Notwithstanding any form of legal or regulatory framework, the challenge is on the analysis of market and intermediary data, as well as enhancing the sharing of information. This challenge remains one of how best to build a culture where public and private sector institutions become partners in routine sharing of information in a timely manner, so that together we can address emerging risks.

In building the foundations for a sound systemic regulation, a good framework to manage solvency issues is a requirement. Having in place clear legal and regulatory guidelines on actions required by both the failing institution and the regulator, will provide certainty and market confidence in handling institutions considered too big to fail or institutions from which problems can have significant impact on stability.

Finally, a sufficient and necessary condition of better systemic risk regulation would include stronger requirements on credit rating agencies. Credit ratings are incorporated in the financial system as a tool for investors to assess credit risks, yet credit agencies go unregulated. There is growing consensus internationally for credit rating agencies (CRAs) to be subject to reforms, as well as some form of regulatory oversight. This includes modifications to a rating agency’s practices and procedures for managing conflicts of interest and for assuring the transparency and quality of the credit rating process, particularly on the process underlying ratings of complex securitized instruments and derivatives. Given the global scope of some credit rating agencies, the oversight framework should be consistent across jurisdictions with appropriate sharing of information between national authorities responsible for the oversight of credit rating agencies.

In Malaysia, as far back as January 2006, we had already subjected CRA to mandatory registration. The SC’s guidelines set out the criteria that must be satisfied by an applicant CRA that seeks to be registered. Going forward, we are working on enhancing measures to address issues of conflict of interest management, and ensure appropriate diligence standards of the CRAs.

Improving transparency and disclosure

Ladies and gentleman,

At the heart of the global financial crisis were esoteric financial products such as CDOs, CLOs, CDS, and SIVs. Regulators have until the financial crisis adopted a minimal interference stance in their regulation even though much of the innovations evolved to take advantage of regulatory gaps.

Even though many of the complex financial products were not distributed in emerging markets, emerging markets face the dilemma as to what appropriate regulatory stance should be taken in striking the balance between the need to facilitate innovation in order to deepen the capital markets and the need to protect investors. In this regard, much of the discussions on reforms internationally are on enhancing transparency through disclosures, not just of product risks to investors but also of the financial institutions that distribute them. For example, the Technical Committee of IOSCO had in September 2009 in its final report on “Unregulated Financial Markets and Products” called for regulatory approaches and mechanisms that would introduce greater transparency and oversight in unregulated markets and products and improve investor confidence in the quality of these markets.

A lesson of the financial crisis would be that financial innovations that exploit regulatory loopholes and which are opaque in nature may need to be scrutinized more thoroughly and appropriate regulatory framework should be applied. I would argue that regulatory authorities also have a responsibility to ensure trust in such sophisticated and complex products that are permitted to be distributed in their markets. Nonetheless, we would need to concern ourselves with both safety and creative issues – not just simply be law enforcers but have the capacity and sophistication to be open to more complex ideas that can have the potential to improve the public good.

Whilst disclosure is a constructive regulatory approach, exclusive reliance on disclosure as a regulatory tool may not always be effective when they relate to complex financial products. This crisis has shown us that it cannot be expected of consumers and investors that they do all they should do for themselves. There is certainly a need for rules that do not allow complex products to deceive and mislead investors or be permitted to be distributed to investors without good and proper advice being given to them. The challenge for us nonetheless is to consider carefully the potential deleterious impact on our development efforts in emerging markets if complex products are prohibited altogether or in imposing more regulation. What is critical is to build trust in investors in order to ensure that such complex products interface with them in a simple and straightforward manner, to make them comprehensible so that investors are able to use these products correctly.

On the public sector side, there may be the opportunity for emerging markets to promote innovation-enhancing financial regulation. It would be imperative to encourage better dialogue between private sector participants and regulators. But in order to do so meaningfully without attracting the risks of regulatory capture, regulators must also have sufficient capacity and enough qualified and competent staff to understand the complexity of the innovative process.

Some guiding principles for the assessment of robustness of regulatory framework for the capital markets

Ladies and gentleman,

The global crisis has created a new awareness among regulatory authorities for the need to assess the internal strength of their own markets and regulatory frameworks. Several countries have undertaken comprehensive assessment of the effectiveness of capital market regulatory agencies, such as in Australia and in New Zealand.

Similarly, in Malaysia, strengthening institutional framework will form a core part of our reform agenda for the capital markets. This includes building capacity and attracting different skills and competencies as the Securities Commission designs and implements the next stage of our Capital Market Master Plan for the next decade.

As we track discussions and assessments by fellow regulators, we have compiled a list of principles that have been discussed by many expert groups internationally, which we think will be useful guides in the design of the reform agenda to suit the particular country characteristics and structure of the capital markets:

First, regulatory reforms must be based on a consistent conceptual framework, which builds on existing strengths, and identifies the weaknesses that require attention. This entails a detailed assessment of the impact from the global financial crisis and the country responses.

Second, the design of regulatory reform must be preceded by an extensive and iterative consultation process, to ensure new measures will be robust enough to withstand new stresses that could emerge in the market.

Third, reforms must take account of the current global standards and the ongoing consensus on financial reforms. In this regard, we believe that the current debate on financial reforms in global fora presents an opportunity for all parties and stakeholders in the financial sector, whether it’s, government, the private sector and the regulator, to promote and expand capital market intermediation, product development and trading volumes in a safe and stable environment. 

Within these broad principles, the SC is undertaking a rigorous review of the adequacy and robustness of the regulatory framework for our capital markets. Specific areas of our review that would be followed up with reforms, include the following:

  • Consideration to broaden the definitions of “securities” and “futures contracts” in the legislations to ensure that new innovations do not fall outside of the regulatory purview;
  • Formulate holistic and comprehensive supervisory framework for OTC derivative markets, which will include enhancing the current approval regime for certain complex products and OTC derivatives;
  • Strengthening of oversight over market intermediaries and enhancing requirements in respect of sales practices that must be observed by intermediaries at various stages of the sale of investment products. Further, attention will also be given to communication and simplification of language as these measures will encourage investors to read and understand the information that has been provided to them. In doing so, the SC has undertaken studies to benchmark sales practices with those of other jurisdictions to ensure that the enhancements to be implemented by the SC will be in line with international best practices ;
  • Review of the classification of sophisticated individual investors. The enhancements to sales practices will be complemented by a holistic review of our current eligibility criteria for sophisticated investors. The SC will introduce eligibility criteria that will ensure that sophisticated individual investors have the financial means and fully understand the risks that is associated with investing in complex investment products;
  • Further strengthening investor protection framework including the setting up of an alternative dispute resolution framework for retail investors; and finally, most importantly
  • The reviewing of the institutional strength and weaknesses in SC and to institute changes that will complement the new regulatory focus, as well enhance capacity within the SC to take on these complex and urgent tasks.

Greater voice for emerging markets in the design of financial regulation

Ladies and gentleman,

In emerging markets, financial institutions, policymakers, supervisors and regulators will all need to become better equipped to manage the interconnectedness of markets, both domestically and globally and there must be better sharing of information between regulators nationally as well as internationally. Moving forward, it would be crucial that any formulation of financial regulation and new international financial structures should be truly global by giving voice to emerging markets in their formulation and establishment. I am very pleased to say that the IOSCO strongly supports the need for greater emerging markets’ voice and has in fact formally made a request to the G20 to give effect to this.

In order for emerging markets to be heard in the formulation of global solutions for financial stability, we must strengthen cooperation amongst us. We need to spearhead issues that are important to our development and stability agenda. A major area that can yield high value long-term benefits is cooperation and mutual support to enhance and build new capacity in financial market expertise. In particular, we need to work together to build a cadre of experts so as to better respond to the complexity and rapid developments in the capital market.


Ladies and gentlemen,

Emerging capital markets are more vulnerable than those in the developed economies. Less sophisticated markets also mean fewer opportunities for low cost options to manage the risk exposures. At the same time, capital markets in emerging economies are expanding rapidly. Growth in Islamic capital market instruments offer opportunities of alternative products with a different approach to managing risks. Opportunities for emerging markets to find it own regulatory space abound. Good practices adopted so far can be enhanced from lessons learnt from recent developments in the more advanced markets.

Greater cooperation amongst emerging economies together with the collective wisdom of responses from past crisis should be leveraged by emerging economies to be heard in the global solutions. A balanced regulatory approach to secure a safe and sound capital market that still thrives on innovation will help us meet the needs of financing growth in GDP by creating liquid markets and protecting investors.

Ladies and gentleman,

It is my great pleasure once again to welcome you all to this historic 10th EMP. We all look forward to stimulating discussions and exchange of ideas in the improvement to regulations in our capital markets in the years to come.

Finally, before I step down, thank you once again to all speakers and panelists who have responded so positively to our invitation to contribute to making this Emerging Markets Program an effective and successful one.