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Remarks at the Harvard Law School Symposium on Building the Financial System of the 21st Century: An Agenda for Europe and the United States

Commissioner Daniel M. Gallagher

Frankfurt, Germany

April 15, 2015

Thank you, Hal [Scott], for that kind introduction. I apologize for not being able to address you in person. Back in 2013, I opened a speech to the American Academy in Berlin with a bit of German.[1] While I managed not to call myself a jelly donut, my German was nonetheless so bad that I have been banned from entering the country to speak in a public forum.

I applaud Professor Scott and the Harvard Law School for sponsoring this important and timely symposium. After the financial crisis, regulators around the world rushed to take action — any action, it seemed, so long as it allowed them to appear to be responding with alacrity to the greatest financial system upheaval in decades. In 2010, a U.S. congressional majority that was determined not to let a good crisis go to waste passed the Dodd-Frank Act with almost no minority party support. Dodd-Frank predated Congress’s own investigation into the causes of the financial crisis, as well as that of the overtly political majority of the Financial Crisis Inquiry Commission.[2] When it became clear that Dodd-Frank would be a single party, runaway train of legislation, policymakers and special interest groups backed up their dump trucks to fill the statute with decades’ worth of pent-up wish list items. As a result, the Act as signed into law was a partisan manifesto untethered to the causes of the financial crisis. I call it a manifesto because despite running over two thousand pages long, the Act, laden with ill-defined, socially and politically motivated rulemaking mandates, punted even the rudiments of implementation to putatively independent regulatory agencies.

What Dodd-Frank does on a domestic level, the G-20 and its implementing arm, the Financial Stability Board, are doing on an international basis. Although early on, certain U.S. regulators wanted to regulate the world unilaterally, most notably in the derivatives space, more recently, U.S. policymakers have worked hand in hand with the FSB in what passes as a multilateral effort to regulate the world financial markets. In doing so, they hijacked what used to be referred to as “regulatory harmonization” to meet their own ends.

On its face, “regulatory harmonization” sounds like a noble goal: if jurisdictions could coalesce around a single set of high-quality standards, compliance burdens could be reduced with no real reduction of investor protections. Since the crisis, however, “regulatory harmonization” has taken on a new and worrisome meaning. Instead of facilitating cooperation among regulators from different jurisdictions, the concept of “regulatory harmonization” has morphed into a top-down, forcible imposition of one-size-fits-all regulatory standards on sovereign nations by opaque groups of global regulators. This “one world, one government” approach to regulation doesn’t allow itself to be bothered by musty old concepts like national sovereignty or consent of the governed.

In 2009, the G-20 directed the FSB to coordinate the work of national authorities and multinational standard-setting organizations in the development of effective financial services regulation, with an emphasis on promoting financial stability. However, in reality, the FSB has been doing far more than merely coordinate the efforts of national regulators.

Recently, as evidenced by a memorandum to FSB members from its chairman, Bank of England Governor Mark Carney, the FSB has removed all doubt of its real purpose: to direct national authorities to implement the FSB’s own policies.[3] Mr. Carney explained in his memo that the FSB’s decisions must receive “full, consistent and prompt implementation” in member nations, as this “is essential to maintaining an open and resilient financial system.”

And to make sure member nations know the FSB means business, Mr. Carney warned that the FSB’s key findings would be regularly reported to the G-20, the membership of which, it’s worth noting, requires neither a democratic government nor free and transparent financial markets. In other words, fall in line or we will report you to your President.

Even putting aside issues of national sovereignty and economic freedom, it remains the height of regulatory hubris to assume that not only is there a single regulatory solution to any given problem facing our markets, but that a handful of mandarins working in an opaque international forum can find those perfect solutions. In reality, while such regulators may get some things right, they will most certainly get some things wrong — and, having coerced the world to do it all one way, it will go wrong everywhere.

There is no better example of this peril of this type of regulatory group-think than the capital standards set by the Basel Committee. In the pre-crisis era, these standards, among other things, classified residential mortgage-backed securities as lower risk instruments than corporate or commercial loans. Banks naturally responded to the incentives set under the Basel rules in constructing their balance sheets, resulting in homogeneous — and, as we now know, ultimately disastrous — business strategies and asset concentrations. When the housing bubble burst, the banks realized too late that these assets were toxic.

As for the FSB, it certainly has been successful in its efforts to coerce cooperation from its members. Its decisions have been adopted with no obvious pushback or dissent from its members. And the member nations are now moving to implement the FSB standards into their domestic law. In the United States, for example, in every case where the FSB made a decision or announced a policy, the Dodd Frank-created Financial Stability Oversight Council, or FSOC, has followed suit.[4]

  1. When the FSB announced that it was examining whether to extend its global systemically important financial institution, or G-SIFI, framework to non-bank, non-insurance financial institutions such as asset managers, FSOC’s research arm at Treasury rushed out a fatally flawed report portraying the asset management industry as a ticking time bomb of systemic risk. The FSB is continuing to pursue the potential designation of asset managers as G-SIFIs, and the only entities that would be picked up by the proposed criteria are U.S.-based. Indeed, the actions of the FSB seem tailor-made to provide the FSOC with justification to institute centralized command and control over the asset management industry.
  2. When the FSB designated four nonbank U.S. financial firms as G-SIFIs, the FSOC quickly moved to do so as well.
  3. And when the FSB recommended that bank-like capital requirements should apply to money market mutual funds that do not adopt a floating net asset value, the FSOC almost immediately pressured the SEC to adopt similar rules for money market funds.

No one should be surprised by this. Both the Treasury and the Fed are members of the FSB — indeed, probably its most influential members. It is inconceivable that the designations of U.S. institutions as G-SIFIs would have gotten through the FSB without the express approval of the Fed and the Treasury. As such, even as the FSOC was conducting its supposedly independent analysis, its principal players — the Treasury and the Fed — had already approved designating these institutions as G-SIFIs. It is hard to avoid the conclusion, therefore, that the, FSOC’s so-called deliberations on whether to designate G-SIFIs as SIFIs were nothing more than show trials with preordained results.[5]

It is no wonder the FSOC has been reluctant to open its kimono and provide much needed transparency as it hastens to implement the decisions of an international conclave of unelected bureaucrats. FSB standards have not been ratified by the U.S. Senate, and FSB bureaucrats are not answerable to the U.S. Congress, much less the public. Yet these FSB edicts could work a profound change on the U.S. economy. This will, I believe, be counter-productive in the end. The more that these international bodies become seen as a means for foisting unpopular and antidemocratic decisions on a citizenry lacking any buy-in into the process, the less effective they will be in the end. Come to think of it, such unfettered, unaccountable supranational governance may sound familiar to some of our European friends here today.

Let me be clear: I am not calling for the disbanding of international financial regulatory organizations. Rather, we must return these entities to their original pre-financial crisis purposes of facilitating cooperation among regulators from different jurisdictions. The concepts that steered these efforts were regulatory equivalence and substituted compliance. The ultimate goal was for regulators in each jurisdiction to recognize that many of their foreign counterparts had regulatory goals similar to their own, and that their regulatory approaches were of a high quality despite their differences. Indeed, there is usually more than one way to achieve any given regulatory objective, and it’s not always clear which way is “best.”

Having acknowledged that there is more than one way to achieve the same goals, we as regulators could voluntarily choose to deem compliance with a high quality foreign regulatory regime to qualify as a substitute for compliance with our own domestic requirements. In doing so, we could avoid complicated cross-border regulatory disputes and lend greater certainty and predictability to cross-border transactions. By avoiding layered, duplicative, and sometimes incompatible regulations, we could facilitate smoother and more efficient interactions between our respective capital markets, and by allowing and even encouraging heterogeneity of regulation, we could foster robustness and innovation in our capital markets.

The current coercive approach to regulatory harmonization, on the other hand, is flawed as a matter of policy and will become increasingly impractical as the number of nations needing to be coerced grows. It is difficult enough to reach agreement on matters between the U.S. and Europe, despite their many similarities. Other markets, particularly in Asia, the Middle East, and other parts of the developing world, will undoubtedly — and in fact already have — considered going it alone. Others may not have been invited to the party in the first place, and so feel themselves under no obligation to play along.

The mindset in many developed markets is to regulate first and ask questions later. This stifles entrepreneurs, their enterprises, and, of course, their employees and customers.

Take the U.S. as a case study. We have seen a precipitous decline in the competitiveness of the U.S. capital markets dating back to before the financial crisis. In 2007, a report issued by a bipartisan U.S. Chamber of Commerce committee noted that the United States capital markets were steadily losing market share to other international financial centers. The report cited, among other things, internal, self-inflicted factors — such as an increasingly costly regulatory environment and the burdensome level of civil litigation — as problems that urgently needed to be addressed.[6]

Around the same time, the Committee on Capital Markets, an independent and non-partisan research organization led by my friend Professor Scott, issued a pair of reports also calling attention to the declining competitiveness of the U.S. securities markets.[7] These reports cited a significant decline in the U.S. share of equity raised in global IPOs and a legion of statistics indicating that foreign and domestic issuers were taking steps to raise capital either privately or in overseas markets rather than in the U.S. public equity markets.

This past November, the Committee on Capital Markets concluded that, as of the third quarter of 2014, the global competitiveness of the U.S. primary markets was at an historic low.[8] The Alibaba IPO notwithstanding, foreign companies are choosing to raise capital outside U.S. public markets at rates far exceeding the historical average. In addition, foreign companies that raised capital in the U.S. are doing so overwhelmingly through private markets, rather than through initial public offerings. While I am a firm supporter of robust private markets, their popularity should not be the artificial result of extreme burdens we place on public companies.

Some of this decline in U.S. competitiveness may simply be natural. As certain areas of the world continue their development, it is unrealistic to think that the traditional finance centers such as London, Frankfurt, and New York would continue their capital markets dominance indefinitely. A large part of this shift, however, is neither natural nor inevitable; rather, the wounds are self-inflicted.

Not all jurisdictions have bought into to the mentality that it is best and safest to layer on law after law, regulation after regulation, as the United States and the European Union seem to have done. Middle Eastern and Asian markets did not experience the full brunt of the financial crisis, nor the resulting regulatory over-reaction prevalent in western countries. So rather than trying to smother their capital markets with new regulations in a misguided attempt to de-risk them, they have instead been spending their time enhancing their competitiveness.

The U.S. and Europe must now compete with major markets such as Hong Kong, Singapore, and Shanghai. And there are new, emerging international financial centers, such as the Dubai IFC, designed to promote their countries’ financial sectors and the development of their capital markets through regulatory regimes intended to entice issuers and investors.

The U.S. capital markets are significantly more developed than those in Europe. They provide approximately 80 percent of business financing, with the remaining 20 percent coming from banks. The exact opposite ratio applies in Europe. Recently, however, Europe has been taking some very interesting and hopefully beneficial steps towards expanding its capital markets.

Specifically, the European Commission is looking at how member nations can build an efficient capital markets union. In February of this year, it issued a Green Paper to solicit comment on how to “unlock investment in Europe’s companies and infrastructure.” The EC is looking to develop stronger capital markets and is setting on the table for discussion how to remove the barriers to doing so.[9] Similarly, there is an open consultation to determine if there are ways to simplify capital formation, particularly for smaller companies.

It will be interesting to see what possible changes the EC recommends making in light of the directives coming from the FSB. At least one of the EC’s goals — to encourage high quality securitization — is directly at odds with the FSB’s agenda to increase the amount of capital banks must hold (and thereby not lend), as well as its agenda to crack down on “shadow banking” — which is simply another name for the capital markets financing. It remains to be seen how the EC will address the incongruity between their pro-capital market initiatives and the FSB’s capital market-killing efforts.

In the U.S., the SEC and our fellow financial regulators should focus less on the misguided goal of de-risking our markets and more on eliminating the red tape that prevents small businesses from accessing our capital markets. We should implement these much-needed reforms to promote capital formation enthusiastically, not begrudgingly. When regulators do find a need to impose new regulatory burdens, those burdens must be tailored as narrowly as possible to address clearly identified problems and achieve the regulation’s stated goals. Doing so will require continued improvement of cost-benefit analyses to account not only for the direct and indirect impacts of the rule being analyzed, but also the burdens of the overall regulatory framework imposed on market participants.

* * *

Furthermore, we need a renewed focus on eliminating duplicative or counterproductive regulation. Dodd-Frank has clogged up the SEC’s agenda for years, and I worry about the dampening effect this unending distraction may have on the capital markets pipelines linking investors with entrepreneurs. We need to pursue new initiatives to rejuvenate, not overregulate, our capital markets. To do so, we must increase our efforts to root out existing rules that place unnecessary and overly burdensome requirements on market participants.[10]

Internationally, we must find a new way: we must swap our regulatory hubris for humility, and work to find common ground with our international counterparts on areas where cooperation based on mutual respect and recognition can bear the most fruit. One idea along these lines would be to include financial services regulation in the pending Transatlantic Trade and Investment Partnership treaty, or “TTIP”. If financial services regulation is considered important enough to command the full-time attention of the G-20 and the FSB, then why not cover these issues legitimately and legally in a treaty ratified in the U.S. by the U.S. Senate?

Halfway into a “lost decade” of stagnant growth, low job creation, and popular dissatisfaction, we must start to address these issues, and we must start now.

Thank you for the opportunity to speak with you this evening. I would be happy to take any questions you may have.


[1] Commissioner Daniel M. Gallagher, Speech, The Impacts of Post-Crisis Global Regulatory Reforms on Financial Markets (Dec. 10, 2013) available at

[2] Commissioner Daniel M. Gallagher, Speech, Remarks at The SEC Speaks in 2012 (Feb. 24, 2012) available at

[3] See Memorandum from Mark Carney, Chairman, Financial Stability Board, to G20 Finance Ministers and Central Bank Governors re: Financial Reforms — Finishing the Post-Crisis Agenda and Moving forward (Feb. 4, 2015) available at

[4] See Wallison, Peter J. and Gallagher, Daniel M., How Foreigners Became America’s Financial Regulators, Wall St. Journal (Mar. 19, 2015) available at

[5] See Wallison, Peter J., What the FSOC’s Prudential Decision Tells Us About SIFI Designation (Mar. 31, 2014) available at

[6] Commission on the Regulation of U.S. Capital Markets in the 21st Century, Report and Recommendations (March 2007) available at

[7] Committee on Capital Markets Regulation, Interim Report of the Committee on Capital Markets Regulation (Nov. 20, 2006) available at; Committee on Capital Markets Regulation, The Competitive Position of the U.S. Public Equity Market (Dec. 4, 2007) available at

[8] Committee on Capital Markets Regulation, Continuing Competitive Weakness in U.S. Capital Markets (Feb. 25, 2015) available at

[9] See European Commission, Green Paper: Building a Capital Markets Union (Feb. 18, 2015) available at

[10] See, e.g., Statement of SEC Commissioner Daniel M. Gallagher (Mar. 2, 2015) (describing and attaching chart depicting aggregate impact of regulations on financial services institutions since passage of Dodd-Frank in 2010), available at

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