By the end 2012, the UK is going to have united the banking regulation authority and the central bank. Important steps are being taken to this end.

Almost everyone agrees now that financial stability must be addressed both at the micro (bank) and macro (the entire financial system) level. There was no such distinction before the global crisis. Thus, the relevant institutional infrastructure is not in place. Now the world discusses under which governance structure macroprudential financial policies could show healthier results.

No uniform solution

Evidently, there is no uniform solution that would give desired results in each and every country. The Bank for International Settlements (BIS) has a Central Bank Governance Forum. A working group established by the Forum issued a report on June 2011, entitled “Central Bank Governance and Financial Stability.” The report seeks to answer the question “What is the institutional arrangement we need?” In short, the theme of the report is mainly the issues I have been trying to discuss here.

The report addresses four options: The first discusses the governance arrangements needed in the case that macroprudential policy is implemented as a shared responsibility by more than one institution. The report defines two alternatives under this option: to establish a macroprudential policy council (or a financial stability policy council) or to introduce an arrangement under which macroprudential policy decisions will be taken by multiple agencies. For a second option, the report discusses the possibility of a separate macroprudential agency. The third option is to assign the responsibility of macroprudential policies to the central bank and establish a separate microprudential regulation agency. The fourth option is to delegate the central bank the authority to carry out both macro and microprudential policy.

The first option scarcely matches up with the institutional structure in Turkey. On Tuesday I explained why there is a limited match. I argued that this framework might be harmful to the independence/autonomy of the mentioned institutions. My recommendation for the transference of the macroprudential powers of the Banking Regulation and Supervision Agency (BRSA) to the Central Bank of Turkey (CBT) matches up with the third option stated in the BIS report. Also, the second alternative I recommended, that is, uniting the BRSA and the CBT, coincides with the fourth option the report addresses. I did not recommend an alternative that coincides with the second option, which is said to be less feasible than the other three.

Legal arrangements are inevitable

No matter which option you chose, legal arrangements are inevitable. This is a critical point to understand. It is easy to define price stability. Also, it is easy to judge in the law of the respective agency, “The main objective of this agency is to maintain price stability. This agency has the authority to decide which monetary policy tools to use and to set the inflation target in coordination with the government.” Legal arrangements concerning price stability are quite concrete.

Things are different, however, when it comes to financial stability. When you assign an agency the duty to secure financial stability and judge that securing financial stability is the main objective of the said agency, the framework just hangs in the air. How are you supposed to define macro-financial stability, or in broader terms, financial stability? There is more on this: you also have to decide macroprudential policy tools and give the relevant agency the authority to use those. This is the main matter of debate lately. The UK is an interesting example with this respect. By the end 2012, the UK is going to have united the banking regulation authority and the central bank. Important steps are being taken to this end, including a thorough attempt for legal arrangements. There are lessons Turkey could learn from this discussion. I will continue talking about this.

This commentary was published in Radikal daily on 16.02.2012