Ensuring Stability in Turbulent Times1
Your Excellencies, Distinguished Guests,
Sabah-al-khair and a very good morning.
I am very delighted to be here today and I am grateful to H.E. Dr.
Abdulrahman A. Al Hamidy for inviting me to speak before this august
gathering. Thanks to the active collaboration of the Basel Committee on
Banking Supervision, Financial Stability Institute, and the Arab Monetary
Fund, these high-level meetings provide a valuable forum for exchange of
views for the regulators and supervisors in the region.
The agenda of this conference adequately captures key developments,
issues, and challenges that we need to focus our attention on. Today, I
would like to touch upon two major forces that have swept across the
financial world. First is the tech-driven revolution, which has brought its own
set of risks and rewards. Second is the wide range of measures that have
been introduced to strengthen the resilience of our banking systems.
Let me start with innovations first.
Innovation; opportunities and risks
Tech-driven innovations have unleashed drastic changes in the way we
conduct business, interact with each other, or consume various products
and services. Financial sector, essentially an 'information industry', is
experiencing a major transformation, fueled by advances in technology.
Though the imprint of modern technologies is now ubiquitous, let me briefly
highlight a few areas of finance where the developments are particularly
significant.
To start with, technology is supporting the outreach of formal financial
services to the millions of otherwise unbanked customers. According to the
World Bank, the poorest 20% of the world population is more likely to have
access to a mobile phone than to clean water and sanitation. Capitalizing
on this opportunity, a number of countries have managed to swiftly expand
access to finance in recent years. Globally, number of adults who were
previously out of formal financial system has dropped by 20% during
201114 alone. As these encouraging trends suggest, digitalization offers an
unprecedented opportunity to improve access to finance to the millions of
people who have remained financially excluded so far.
Likewise, programing breakthroughs like blockchain are potentially
transforming the way we verify transactions and enforce contracts. By
allowing parties to transact without central intermediaries, blockchain can
strip off costs, reduce inefficiencies, and enhance customer services.
Host of other innovations are reshaping the way we transfer money or obtain
credit. For instance, mobile wallets are enabling payments by smart phones,
peer-to-peer lending is providing new sources of financing, and
roboadvisors are offering financial advice.
While undoubtedly exciting, these developments bring in their own unique
risks and challenges. I would like to flag a few of them, particularly from the
standpoint of financial stability.
First, cyber security risk is becoming an increasingly major part of banks'
operational risk landscape. As various hacking episodes illustrate, now
fraud can be perpetrated swiftly, remotely, and on a massive scale. Though
such occurrences are still uncommon, the impact is substantial, given the
high degree of interconnectivity of our systems and markets.
Second, fintechs are unbundling parts of the finance value chain, offering
financial services directly to customers. Apart from increasing competition,
and squeezing banks' profits, fintechs are moving part of the banking
business to shadow banking which remains lightly regulated, if at all.
Likewise, tech-enabled peer-to-peer lending and crowdfunding can further
expand the scale of shadow banking, and may also exacerbate
procyclicality.
As this discussion indicates, innovations are by nature a disruptive force,
causing a considerable degree of instability. Therefore, regulators face a
daunting task of keeping financial systems safe and stable while continuing
to ensure the convenience and efficiency that modern technologies offer.
To ensure that, we must strengthen our own capacity to identify, monitor,
and mitigate the risks from technological innovations. This would require
closer cooperation with the banking industry as well as among regulators,
both within a country and across the borders. Yet that is not enough; we
also need to leave our comfort zone and engage with other stakeholders,
primarily the tech firms themselves.
Ultimately, as regulators, we wish neither to stifle innovation nor to
undermine financial stability - and it is indeed a very delicate balance to
achieve. Similar to when navigating unfamiliar domains, we need to remain
agile, adaptive, and proactive - this will ensure reaping the enormous
benefits of financial innovations, yet limiting their downside.
Let me now turn to the second part of my speech.
Regulatory reforms; costly but essential
Banking regulation has been another major area witnessing far-reaching
reforms. Driven by the experience of global financial crisis, banking
regulation, under the able leadership of the Basel Committee, has
witnessed a major overhaul. Strenuous efforts have been made to improve
resilience of banking systems across the globe.
These measures are vitally important, given the increasing uncertainty of
when or where the next shock would emanate from. Consider the stress that
financial markets had to face in recent years. In 2013, it was the US taper
tantrum, in 2014 it was the collapse in oil prices, in 2015 it was rebalancing
in China, and this year it was Brexit, just to quote a few examples. These
events were markedly different in geographical origin and root causes but
were common in rattling the global markets.
Against this backdrop, ensuring a resilient banking system capable of
withstanding a variety of shocks is no easy task. And these shocks are not
only exogenous; the banking system itself is in a state of flux amid evolving
risks, in part due to the very financial innovations I just talked about.
This calls for continuously upgrading our regulatory regime. Accordingly, we
in Kuwait, like our colleagues in the region, have not only refined our existing
regulations to reflect the best global practices, but have also introduced a
host of new measures.
This journey brought its own set of challenges, and I would like to point out
one in particular, to benefit from the presence of our esteemed colleagues
from the BIS. Similar to other jurisdictions with dual banking system, we
have a sizeable presence of Islamic banks in Kuwait. Yet we found limited
relevant guidance for the application of Basel III on Islamic financial
institutions, if at all. For the most challenging aspects of Basel III reforms, it
has been left to the discretion of individual regulators to figure out how best
to apply the proposed rules to Islamic banks.
However, the use of discretion, though well intended, is bound to create
differences across countries, and more so in the case of Islamic finance
where the lack of consistency in Sharī'ah interpretations makes the task
even harder. Consequently, we may witness diverging approaches to
regulation of Islamic banks across jurisdictions, with the risk of regulatory
arbitrage.
Going forward, we also need to recognize that ensuring stability, of a
constantly adapting banking system, cannot be left to regulation alone.
Therefore, we need to strengthen our supervisory capacity, to suitably
complement our revamped regulatory regimes. Only through effective
supervision can we ensure that banks are truly compliant with our
regulations. Moreover, better supervisory oversight would also give us the
agility to mitigate emerging risks before they materialize.
Having said that, it must be acknowledged that we can't regulate every
aspect of the banking system. Ultimately, banks should assume prime
responsibility for their actions and behaviors. Being dependent on public
confidence, banks can ill afford to operate with weak corporate governance
or poor risk culture. This necessitates that banks maintain robust corporate
governance standards, duly supported by strong internal controls, and
prudent risk management.
We are fully cognizant that these regulatory measures are costly for banks;
nonetheless, costs of any financial crisis, both in financial and social terms,
are far more substantial. Therefore, it is only wise and rational to strengthen
the capacity of our banks in benign times. I believe our proactive approach
has actually paid off, as banks in our region generally entered the low oil
price environment from a position of strength.
Yet banks' resilience is not infinite and may come under severe pressure if
necessary economic and structural reforms are dropped - or even delayed.
Hence, we should not lose sight of the broader economic context in which
our financial systems operate. After all, the banking sector is just a
component of the overall economic landscape, though a very crucial one.
While ensuring banking stability is critical, it is only a necessary condition
for overall economic stability - and not a sufficient one.
Given the strong feedback loop between the overall economy and the
financial sector, regulation can't be the 'only game in town' to maintain
financial stability. Equally critical are economic and structural reforms that
are essential for a stable macroeconomic environment where financial
sector can flourish.
Towards that end, we, as central bankers, must continue to provide sound
policy advice to our governments, supporting them in better addressing the
challenges that our economies face, as only broader economic stability
would ensure financial soundness and cement the gains of our regulatory
reforms.
Thank you for your attention.