Turner Review a Measured Response that Recognizes Need for International Consensus

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Allen & Overy said today that the Turner Report, outlining the UK's regulatory response to the global banking crisis, is a measured and valuable response to recent events.

The real surprise is in the FSA's willingness to give up powers to Europe. This would have been unthinkable a year ago and is a politically brave recognition of the need for international solutions to international problems. However, the devil will be in the detail of negotiating how far real powers will be ceded to Europe.

Allen & Overy said today that the Turner Report, outlining the UK's regulatory response to the global banking crisis, is a measured and valuable response to recent events. In particular, the recognition of the limits of the FSA as an individual regulator and the need for international consensus will be welcomed by the City.

Commenting, Bob Penn, partner in Allen & Overy's Financial Services practice, said: "The real surprise is in the FSA's willingness to give up powers to Europe. This would have been unthinkable a year ago and is a politically brave recognition of the need for international solutions to international problems. However, the devil will be in the detail of negotiating how far real powers will be ceded to Europe."

On corporate governance, Corporate partner Mark Wippell, said: "It is refreshing to see in the Turner Review an acknowledgement that there is a limit to the extent to which risks can be identified and offset at the level of the individual firm. As the review points out, a major shift is required in regulatory philosophy towards a focus on macro-analysis, systemic risks and judgments about business model sustainability. With so many changes proposed, this is where those responsible for implementing them should prioritise their efforts at both a national and supra national level."

On enforcement, Litigation partner Arnondo Chakrabarti, said: "The more intrusive approach to supervision in areas of business judgment may lead to more disagreements between the FSA and firms, particularly as the FSA say they will be holding senior management to account for the outcomes of those business judgments. The scope of the FSA's powers to intervene in the more subjective areas may be tested. Attempts to hold senior management responsible for bad outcomes will also put a greater spotlight on the FSA's own judgments."

On Credit Default Swaps, International Capital Markets partner Tom Jones, said: "The call for a nuanced and balanced approach to any potential new regulation covering CDS is welcome. On-going collaboration between the financial institutions engaged in this business and the regulators, as has been seen with the development of central counterparty clearing systems in the United States, will be key to achieving this balance."

ICM partner Paul Cluley continued: "Better regulation is in everyone's interests. But good regulation is not rushed or reactionary. It cannot seek simply to turn back the clock, nor to deny the genuine business and investment rationale for CDS as a financial tool. The Turner Review recognises this."

A&O reaction to the other main findings in the report is as follows:

Capital:
The discussion on capital - particularly the question of how much capital is enough capital for banks - is timely. A sensible debate on this issue, and a recalibration of bank capital requirements, is long overdue.

Leverage ratio:
The suggestion that we should follow Canada, the US and Switzerland in having a leverage ratio is wrong-headed, however. Leverage ratios are a blunt instrument: they encourage banks to take as much risk as they can within the ratio in order to maximise returns. This is a job which the detailed Basel II capital requirements can do in a more risk-sensitive way.

Product regulation:
The suggestion that loan-to-value limits should be placed on mortgages is populist, and the thin end of the wedge. Other, more balanced, routes exist to dissuade banks from lending imprudently. Product regulation is a move away from free markets in the UK, will damage innovation and growth, and should not be allowed to occur.

Shadow banking:
One of the areas where more thought is needed is the question of how the shadow banking system can be regulated. This is not just a question of regulating shadowy hedge funds in sunny Caribbean islands: the metrics to establish when a vehicle (or series of vehicles) is systemic, and therefore should be regulated in the interests of the financial system, are simply not there at present. It is also completely unclear how capital requirements could be altered to apply to such vehicles. This debate has a long way to go.

Europe:
There are some hard lessons for the European project in the report. The FSA is right where they point out that European regulation is inadequate and unsustainable for the future. A complete restructuring of how banks operate cross-border in Europe is needed. It is interesting that the FSA has indicated that it is right to cede some powers to a centralised European regulatory body - the devil will be in the detail of exactly what powers we will hand over to Brussels.

In particular, getting to a framework for dealing with failing cross-border institutions will be a long and arduous process. We see little likelihood of satisfactory outcome of this issue.

Further information
This article is one in a series written by Allen & Overy's legal experts on the theme of global financial regulation and reform in advance of the G20 London summit.

If you have a query about this article please contact Campbell Mcilroy +44 20 3088 2783.

To receive instant alerts of our G20 coverage you can follow Allen & Overy on Twitter.com

Notes to editors
Allen & Overy is a global law firm with over 5,500 staff, including some 500 partners, working in 31 major centres worldwide.

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