andrew bailey : defining the objectives and goals of supervision speech by mr andrew bailey, deputy governor of prudential regulation and chief executive officer of the prudential regulation authority at the bank of england, at the new york fed conference “ defining the objectives and goals of supervision ”, federal reserve bank of new york, new york city, 18 march 2016. * * * first of all, many thanks to the new york fed for organising a conference on supervision of banks. this sounds a strange thing to say in one sense – not in another because the gratitude is genuine – but strange in the sense that surely supervision is such an important part of what we do that we shouldn ’ t be particularly surprised at the idea of having a conference on it. but in my experience, it is surprising how little time we spend being more reflective about supervision. i want to start with some important definitions. frequently, and mistakenly, “ supervision ” and “ regulation ” as terms are used interchangeably. that ’ s wrong. regulation is to do with the framework of rules and guidance that put the structure around the objectives that as authorities we are usually given in statute. in the uk, the pra has a primary objective in terms of the safety and soundness of firms we authorise to do business, and safety and soundness are expressed in terms of the stability of the financial system. there is then a rulebook that tells us what safety and soundness means. that ’ s the framework of regulations. supervision is about how we use it in practice. for me, two critical elements of supervision are that it is forward - looking, and it requires the use of judgement. sounds obvious, but sadly hasn ’ t been consistently done well in the past, with bad consequences. supervision is therefore a skill – in fact it ’ s quite a few skills. the essence of the job is to understand risks in firms, and where necessary to step in and do a number of things : point out risks, or their significance when the firm seems to have failed to notice – through either lack of awareness or intent ; or point out that while the firm may have identified the risk, it has failed to understand or calibrate its significance. this leads me to a couple of important points. first, our assessment of risks can differ from firms because our objective represents the public interest, and there is an externality in the risk in question which affects the public interest in ways that do not register with a definition of private interest.

up of ideas which had accommodated inflation. historians have suggested that burns himself was not innocent in this respect, but the point is that there was a role for broad ideas which enabled the accommodation of pernicious inflation. it was dressed up as enthusiasm for growth and societal change which was ultimately unsustainable. we saw similar traits before the financial crisis, with the consequence that supervision was supressed. the whole thrust of the post - crisis changes in my view is to make supervision less pro - cyclical – not to aim off in the good times, but also not over - compensate the other way in the bad times. a third thought in this respect is that we underestimated the importance of system - wide risks and macro - prudential policy. supervision – and particularly large complex firm supervision cannot be remote from macro - prudential policy. to be honest, while i think we have made some progress breaking down the barriers, we still have a long way to go to integrate micro and macro prudential approaches. douglas elliott has made the point that we entered the crisis at a point in the history of economic policymaking where we had abandoned all macro tools other than the use of interest rates, the price of money. this was fairly unprecedented. we had lost confidence in quantitative tools in monetary policy, and the role of reserve money had been diminished. we had very little in the way of bank liquidity policy, of which holdings of reserve money are an important part. the experience of the crisis tells us that we have to keep working hard to re - develop these tools and to knit large firm supervision into the picture. in my experience, it doesn ’ t happen naturally. this brings me to the fourth and final thought on supervision. it was absolutely essential and natural that the immediate reaction to the crisis was to re - build regulation and supervision in respect of the core prudential all speeches are available online at building blocks, which are solvency ( capital ) and liquidity ( funding ). and, we had work to do, and still have, to get these core elements into better shape. and the work of interpreting these standards will never stop because the precise forms of risk taking will evolve. but, when i have stepped back and looked at the causes of the crisis in firms, another thing stands out. in the uk, i don ’ t think we saw a major prudential failure of capital and liquidity which did not have a governance and management story at is root