Independence and accountability

Observation

Australia generally has strong, well-regarded regulators but some areas of possible improvement have been identified to increase independence and accountability.

Strong, independent and accountable financial regulators are crucial to the efficient, stable and fair operation of the financial system. Independence is important to ensure supervisory effectiveness, maintain Australia’s reputation as a safe and attractive investment environment, and meet relevant international standards.

To this end, independence should be maximised to the greatest extent possible, together with clear and robust accountability mechanisms that provide appropriate checks and balances. Balancing these objectives is challenging.

In practice, the degree of independence and accountability of regulators will not only depend on the legislative and institutional frameworks it will also depend on the culture of the regulatory agencies themselves. Independent regulators need to be equipped to withstand external pressure — both political pressure and undue industry influence. Accountable regulators need to be respectful in the way they discharge their powers and open to questioning, feedback and new ideas or evidence.

Evidence suggests Australian regulators generally are independent from Government. APRA, ASIC and the RBA are established under statute to independently execute their mandate. For example, the APRA Act establishes APRA as an independent statutory authority charged with responsibility for prudential regulation of the financial sector. Thus, in evaluating areas for future improvement, the Inquiry has focused on operational independence and budgetary independence.

Independence

Preliminary assessment

Operational independence — ministerial intervention

The relevant Minister can give a direction to APRA, ASIC and the RBA. For example:

  • The Minister has the power to give a direction in writing to APRA or ASIC “about policies [they] should pursue, or priorities [they] should follow”.26 Ministers cannot give a direction about a particular case, but can direct ASIC to investigate a particular matter.
  • The Reserve Bank Act 1959 allows the Treasurer, with the advice of the Federal Executive Council, to determine the policy the RBA should adopt, if there is a difference of opinion as to whether the monetary and banking policy is “directed to the greatest advantage of the people of Australia”.27

Historically, the value governments placed on independence has meant, the ministerial intervention power has only been used in rare and exceptional circumstances. The Inquiry was only able to find one example of its prior use: in 1992, the Attorney-General gave a direction to ASIC’s predecessor body, the Australian Securities Commission (ASC), to require increased cooperative arrangements between the Director of Public Prosecutions and the ASC.28

In its 2012 report, the IMF Financial Sector Assessment Program (FSAP) of Australia found that, although such powers have rarely been used, their existence could potentially diminish APRA and ASIC’s ability to carry out their supervisory and regulatory functions effectively.29

Whether or not the power is explicitly used, its existence can potentially encourage a regulator to follow the wishes of the Minister. This highlights the uneasy balance between accountability to Government and the independence of regulators.

In New Zealand, the Ministerial directions power is less likely to erode regulator independence, as it relates only to broad performance goals, strategies and measures.

The Inquiry seeks further views on whether Ministerial intervention powers erode regulator independence. If the Ministerial direction powers were to be removed or scaled back, additional accountability mechanisms could be introduced, as discussed in the Accountability section.

Budgetary independence

A number of principles underpin a best-case funding model for financial regulators:30

  • Total funding should be proportionate to the size, complexity and nature of the regulated population. This aligns regulatory funding to changes in the level of risk in the regulated population.
  • Regulatory costs should be proportionately borne by those contributing to the need for regulation or benefiting from that regulation. Proportional allocation of regulatory costs promotes the principle of horizontal equity: that market participants should be treated fairly, as outlined in the Australian Government’s guidelines on cost recovery models for regulators.
  • Funding should have a high degree of stability and certainty year to year. This promotes long-term planning and increases efficiencies by avoiding unnecessary short-term costs.
  • Funding should promote operational independence. This encourages effective and unbiased regulation.

The suitability of the current funding models for ASIC and APRA are assessed below. It is important to note that the Inquiry has not assessed the adequacy of funding currently received by either ASIC or APRA. Rather, the assessment focuses on whether the funding models meet the principles underpinning a best-case funding model.

ASIC

An assessment against these principles suggests ASIC has a low degree of budgetary independence, with only a weak link between its regulatory functions and the way it is funded.

Like APRA, ASIC’s funding level is decided by Government, but funds flow to ASIC from general revenue, rather than an industry-funded levy. Costs for ASIC are borne by the public, in proportion to their tax contributions. Members of the public, as beneficiaries of regulation, do not bear these costs in proportion to that benefit. Equally, market participants, who contribute to the need for regulation, generally do not bear its cost directly.

Furthermore, industry fees are increasingly misaligned with the cost of ASIC performing its regulatory function. Funding is not proportionate to the level of risk in the industry. For example, ASIC notes:

[It] costs ASIC about $108 million to regulate AFS licensees; however, ASIC collects … only $3.7 million in registry fees from AFS licensees, approximately 3.5% of the cost of regulation.31

ASIC’s funding is more variable than APRA’s. ASIC’s ‘core’ funding levels have remained relatively stable, with a sufficient degree of certainty through the current new policy proposal (NPP) process. However, special purpose ‘non-core’ funding, which has a higher degree of uncertainty, has increased in the last few years.

ASIC’s submission highlights significant differences between the forward projections of its budget expenditure and realised expenditure. The differences between the forward and realised expenditure constrain ASIC’s ability to forward plan in response to market and regulatory developments.

In recent reviews of Australia’s financial system and regulatory framework, both the Financial Stability Board (FSB) and the IMF raised concerns about ASIC’s lack of stable funding and inability to commit resources to longer-term projects. According to the IMF, this limited degree of budgetary independence in turn inhibits ASIC’s ability to dedicate sufficient resources to conducting proactive supervision. Recent commentary from the IMF and the International Organization of Securities Commissions (IOSCO) generally supports a move towards an industry-funding model.

Globally, most securities and markets regulators are employing industry funding–based models.32 Adopting an industry-funding model, if designed carefully, may increase the degree of certainty in funding. Despite the advantages of an industry-funding model, a number of potential challenges require consideration. For example:

  • Cost of implementation on business.
  • Appropriately balancing costs and benefits between industry and the public, where the benefits are seen by some as a public good.
  • Method of allocating costs. Using levies gives rise to potential cross-subsidy concerns.
APRA

APRA’s budget is proposed by the APRA members and is determined by the Government as part of its budget deliberations. There is scope to improve the model for determining APRA’s funding. Changes to the funding model could increase stability year to year and promote operational independence.

The Government primarily recoups the cost of prudential regulation from annual levies collected from supervised institutions, with a smaller contribution from interest earnings, fees for services and miscellaneous cost recoveries. Stakeholders are concerned about having insufficient time to comment on the Government’s annual proposed levies, expressing a desire for more detail on APRA’s costs and activities.

Policy options for consideration

The Inquiry has identified a range of options for addressing the issues discussed above. Views are also sought on maintaining the status quo.

Move APRA and ASIC to a more autonomous budget and funding process

Enhance the process for APRA’s budget approval

APRA could be required to publish a comprehensive budget proposal with associated levy proposals and business plans each year, ahead of the Government’s annual budget process.

The enhanced external consultation process would drive greater internal and external scrutiny of how APRA’s resources are allocated across its functions and opportunities for efficiencies. Under this process:

  • APRA would publish detailed budget projections for a multi-year period.
  • Industry and other stakeholders would receive an opportunity to comment on the budget proposals and the level of APRA resourcing proposed.
  • A final budget and levies proposal would then be submitted to Government for approval, including a summary of the comments from stakeholders and APRA’s response. Subsequently industry would be levied.
Move ASIC to an industry funding model

As discussed above, ASIC’s predominantly Government-funded model poses limitations in meeting the principles of a best-case funding model. There is a case for moving to an industry-funding model for ASIC, based on approaches taken in the United Kingdom, Canada and other jurisdictions.

The Inquiry would value views on the costs, benefits and trade-offs of the following policy options or other alternatives:

  • No change to current arrangements.
  • Move ASIC and APRA to a more autonomous budget and funding process.

Accountability

Preliminary assessment

Australian regulators are subject to similar external accountability arrangements to comparable peer jurisdictions. They are held accountable through a range of mechanisms, including Parliament, courts and tribunals, public media reporting and freedom of information, and reviews by international bodies, such as the IMF FSAP.

The Inquiry recognises that there is room to further strengthen or implement new accountability mechanisms for regulators, particularly in light of proposals to increase independence.

Statement of Expectations and Statement of Intent

The Uhrig Report33 recommended that Ministers should communicate Government’s expectations of statutory authorities, such as regulators, in a public written Statement of Expectations (SOE). Regulators respond to SOEs in a public written Statement of Intent (SOI), which outlines how the authority will meet the Government’s expectations.

To date, SOEs issued in Australia do not provide strong guidance on the Government’s expectations about either regulatory outcomes to be achieved or risk tolerance. In turn, SOIs do not provide clear metrics or expectations against which regulators intend to measure their performance. Regulators are not required to report against the SOI on a regular basis, so it is difficult to monitor the extent to which expectations are being met.

In contrast, New Zealand’s SOIs appear to be one of the principal accountability mechanisms for Crown entities. As such, they clearly articulate how regulators will meet the Government’s expectations. The New Zealand SOI process has the added advantage of being regular, systematic and transparent.

Elements that would make Australia’s SOEs more effective could include:

  • Sufficient detail to address the regulator’s full range of responsibilities
  • A broad outline of the Government’s tolerance for risk in the financial system
  • A statement of the strategic direction the Government expects regulators to take

Improving accountability through these mechanisms will require the development of a set of performance metrics that focuses on outcomes.

Regulator efficiency

The efficiency dividend is an important accountability tool that acts as a check on public sector growth. However, it is arguably a blunt instrument that is not well suited to smaller agencies with lower levels of discretionary costs.

Both APRA and ASIC are subject to the ‘efficiency dividend’ requirements, including ‘additional’ dividends imposed over and above the standard 1.25 per cent annual dividend. In particular, the imposition of ‘additional’ dividends increases budget uncertainty and variability for regulators, making it difficult to develop long-term strategic plans.

Other issues

Regulators’ activities are overseen by a number of bodies, including the Office of Best Practice Regulation (OBPR) in the Department of Prime Minister and Cabinet, the Auditor-General, and the Ombudsman. However, in general, these bodies are limited in their scope to make regulators accountable because they can only make recommendations, generally to the Minister or the regulator concerned. There may be some scope to bring together the roles of the Government authorities that oversee and ensure the accountability of regulators.

At the same time, external bodies, such as the IMF, focus on the performance of the sector as a whole. This level of oversight does not involve in-depth reviews of the performance, culture and capabilities of individual regulators. Regular, frank and independent assessments of regulators’ performance would provide an additional accountability mechanism to industry, Government and the community.

Policy options for consultation

The Inquiry acknowledges policy options need to consider the current accountability mechanisms already in place. Simply imposing new requirements in addition to existing ones is likely to result in some overlap.

The Inquiry has identified a range of options for increasing regulator accountability.34

Conduct periodic, legislated independent reviews of the performance and capability of regulators

These legislated reviews would take account of whether regulators (ASIC, APRA and the PSB) were adequately balancing their respective objectives. The review would assess whether regulators could use their resources more efficiently and effectively. These reviews, performed by independent experts appointed by the Government, would have deep access to assess structural, organisational and cultural issues within the regulator.

Regular reviews would build a strong evidence base for regulator performance, identify areas where capability could be improved and introduce a new accountability mechanism.

Clarify the metrics for assessing regulatory performance

A set of clear performance metrics for regulators could be a prerequisite for improving the SOE and SOI process. Various metrics may be good long-term indicators of performance, but in the short to medium term may be too strongly impacted by other factors to be reliable indicators of performance.

Enhance the role of SOEs and SOIs

Consideration could be given to removing or modifying the Ministerial directions power, in favour of developing an SOE/SOI process modelled on the New Zealand system. Regulators would be expected to report annually against the Government’s expectations set out in the SOE.

Additional options

  • Replace the efficiency dividend with tailored budget accountability mechanisms, such as regular audits and reviews to assess the regulators’ potential for savings.
    • Conduct regular audits of agency efficiency as a basis for developing, maintaining and reporting against efficiency measures. For example, to assess the potential for savings within the agencies and the level of funding needed.
    • Require regulators to establish and publish appropriate performance and efficiency measures to strengthen accountability. This is consistent with the requirements of the new Public Governance, Performance and Accountability Act 2013, which will come into force on 1 July 2014. From 1 July 2015, regulators and other government entities covered by the new legislation will be required to publish an annual corporate plan, covering strategic objectives, strategies to achieve them and an environmental risk assessment.
    • Match growth in expenditure to a relevant index, such as a wage cost index or CPI.35
  • Stakeholders have raised a number of policy options to improve the process for overseeing financial sector regulators. For example:
    • An Inspector-General of Regulation36
    • A unified oversight Government authority for financial regulators, combining the roles of the OBPR, Auditors-General, Ombudsman and other specialist bodies

The Inquiry would value views on the costs, benefits and trade-offs of the following policy options or other alternatives:

  • No change to current arrangements.
  • Conduct periodic, legislated independent reviews of the performance and capability of regulators.
  • Clarify the metrics for assessing regulatory performance.
  • Enhance the role of Statements of Expectations and Statements of Intent.
  • Replace the efficiency dividend with tailored budget accountability mechanisms, such as regular audits and reviews to assess the regulators’ potential for savings.
    • Improve the oversight processes of regulators.

26 Australian Securities and Investments Commission Act 2001, s 12(1); Australian Prudential
Regulation Authority Act 1998, s 12(1).

27 Reserve Bank Act 1959, s 11.

28 Australian Securities and Investments Commission (ASIC) 2007, Annual Report, 2006–07, ASIC, Sydney, page 43.

29 International Monetary Fund (IMF) 2012, Australia: Financial System Stability Assessment, IMF, Washington

30 Oliver Wyman 2012, Regulatory Funding Models, data provided to Financial System Inquiry,22 May. Referencing source: Department of Treasury and Finance2010, Cost Recovery Guidelines, and IOSCO 2010, Objectives and Principles of Securities Regulation.

31 Australian Securities and Investments Commission 2014, First round submission to the Financial System Inquiry, page 52.

32 Oliver Wyman 2012, provided to the Financial System Inquiry, 16 June 2014.

33 Uhrig, J 2003, Review of the Corporate Governance of Statutory Authorities and Office Holders,
Commonwealth of Australia , Canberra.

34 We note that the National Commission of Audit and the Productivity Commission have also
highlighted a range of mechanisms for assessing regulator behaviour and accountability.

35 Customer Owned Banking Association 2014, First round submission to the Financial System Inquiry, page 58.

36 Australian Financial Markets Association and Business Council of Australia 2014, First round submissions to the Financial System Inquiry.