FINANCIAL STABILITY FORUM

The Financial Stability Forum was established in 1999 to promote international financial stability through enhanced information exchange and co-operation in financial supervision and surveillance. It brings together senior representatives from international financial institutions, international groupings of regulators and supervisors, committees of central bank experts and national authorities responsible for financial stability. The original members were the G7 plus four other countries representing significant financial centres (Australia, Hong Kong, the Netherlands and Singapore), with Switzerland joining the FSF in early 2007. Australia is represented by the Governor of the Reserve Bank while other staff – from both the Reserve Bank and the Australian Treasury – have been involved in various working groups. The Forum also holds regional meetings to encourage dialogue between members and non-members. Following each meeting, the Forum releases a statement outlining its assessment of vulnerabilities in the global financial system and a summary of its discussions concerning the international financial architecture.

The Forum has produced a series of working group studies and reports on international capital flows, offshore financial centres, highly leveraged institutions, deposit insurance, the implementation of international financial standards for sound financial systems, and activity in credit risk transfer markets (discussed below). Papers on these subjects are available on the Forum's website. Work undertaken includes the following:

• The Forum has investigated the activities of highly leveraged institutions, such as hedge funds. In 2000, a working group, on which the RBA was represented, recommended a package of measures to address the effects that highly leveraged institutions’ activities have on both systemic risk and market dynamics. These measures included enhanced public disclosure by highly leveraged institutions, through both regulation and legislation. A review in 2001 of progress in implementing the recommendations found some progress had been made (such as improved risk management by counterparties and better senior management awareness of exposures to highly leveraged institutions). The review also noted several areas where further action was required, such as introducing regular and comprehensive stress testing of potential future credit exposures by those lending to highly leveraged institutions.
• The Forum has considered the potential for offshore financial centres to undermine financial stability if inadequately supervised and if information flows between them and supervisors in other countries are insufficient. In its 2000 report, the Forum publicly identified a number of offshore centres that were considered to perform relatively poorly on these criteria. Since then, the IMF has assumed the task of conducting or supporting assessments of offshore centres' adherence to relevant standards and codes.
• The Forum has also been exploring the issues that would arise should one of the very large and complex financial institutions now present in the financial landscape encounter serious difficulties. The potential for such institutions to complicate policy responses was considered in a study on consolidation in the financial sector by the G10 countries, as well as Australia and Spain. Both the Reserve Bank and the Australian Treasury participated. The study, which was published in January 2001, concluded that existing policies appeared adequate to contain individual and systemic risks in the intermediate term, but national authorities were encouraged to step up their contingency planning for resolving weakness in a large and complex institution in an orderly way.
• Activity in credit risk transfer markets has also been a focus of the Forum. Areas that are being investigated by various working groups on behalf of the Forum include: the types of participants in credit risk transfer markets; market participants’ understanding of the risks involved; the possibility of undue concentrations of credit risk; and the risk management practices employed. The Reserve Bank has participated in working groups, one of which has produced a study on credit risk transfer.

Another area of ongoing work relates to the Forum encouraging the implementation of a Compendium of Standards that promotes sound financial systems. The standards cover 'core principles' or 'good practice' in the following areas: transparency in monetary and financial policies; fiscal transparency; data dissemination; insolvency; corporate governance; international accounting standards; international standards on auditing; systemically important payment systems; money laundering; banking supervision; securities regulation; and insurance supervision.

Subsequently, the Forum has set out a range of market and official incentives to encourage the implementation of these standards. Related to this, it has been recognised that the official community has an important role to play in facilitating implementation (e.g. through the provision of technical assistance) and in monitoring, and reporting on, progress – this in turn providing added encouragement for the effective implementation of standards. The IMF is co-ordinating monitoring arrangements, working closely with the World Bank to produce Reports on the Observance of Standards and Codes, providing assessments of the extent of compliance by a country with the various standards. Australia’s self-assessment, prepared by the Australian Treasury, is titled 'Making Transparency Transparent: An Australian Assessment'.

While assessing compliance with a number of the standards is the main responsibility of either the IMF or the World Bank, banking supervision, securities regulation, insurance supervision and payment systems are responsibilities shared between the two institutions. Assessment of standards in these areas is normally undertaken as part of the Financial Sector Assessment Program. These Program assessments are intended to identify strengths, vulnerabilities and risks in the financial system in order to determine how key risks and vulnerabilities are being managed, to establish the sector's developmental and technical assistance needs, and to help prioritise policy actions. The issues addressed in each Program are guided by the country's circumstances and reform priorities. Australian regulators, including the Reserve Bank, have participated in a number of Financial Sector Assessment Program visits around the world. In October 2006, the IMF released the results of the FSAP for Australia in its Financial System Stability Assessment.

More recently, the FSF has focused on the recent turmoil in financial markets. In particular, it has been identifying the weaknesses underlying the turmoil and recommending actions to strengthen the resilience of key elements of the financial system. In this context, in April 2008, the FSF presented to the G7 Finance Ministers and Central Bank Governors a report on enhancing the resilience of markets and financial institutions. The FSF will report on progress in June followed by a fuller follow-up report in September. The FSF will continue to closely monitor implementation thereafter.