Reserve Bank of Australia Annual Report – 2009 International Financial Co-operation

The global financial crisis has increased the need for closer international co-operation, as both developed and emerging economies have sought to mitigate the effects of the turmoil in financial markets and the resulting downturn in economic activity. Over the past year, various international fora have been addressing problems in the regulation, oversight and structure of the global financial system highlighted by the crisis, as well as the more immediate issue of measures intended to foster recovery in the global economy. In many cases, this has led to an increase in the workload of the international groups in which the Reserve Bank is involved. Since late 2008, the G-20 has taken a lead role in prioritising and co-ordinating the work of the major international organisations and has sought to provide the political impetus needed for significant progress in implementing reform.

Group of Twenty (G-20)

In November 2008, the first G-20 Leaders' Meeting was held in Washington DC, attended by heads of state or government. This meeting took place during a period of significant disruption in financial markets. The leaders outlined a plan of significant reforms to the financial sector, which focused on strengthening transparency and accountability, enhancing sound regulation and promoting integrity in financial markets. They also sought closer international co-operation and reform of the international financial institutions.

This plan has shaped the recent work of the G-20, and has been overseen by regular meetings of the G-20 finance ministers and central bank governors and their deputies. In late 2008, four working groups were established to pursue the leaders' reform plan in conjunction with the major international bodies that were undertaking much of the detailed work on the specific action items. The Australian Treasury co-chaired the working group on reforming the IMF, while the Reserve Bank was most actively involved in the working group on reinforcing international co-operation and promoting market integrity, which made recommendations concerning such issues as supervision of major cross-border financial institutions, cross-border crisis management, and protection against market manipulation and fraud. The other two working groups focused on enhancing sound regulation and strengthening transparency, and reforming the World Bank and other multilateral development banks. The Reserve Bank, Treasury, APRA and ASIC have been pursuing the implementation of the G-20 financial reform plan in Australia, although, in many cases, Australian institutions and practices were already consistent with the recommendations.

At their April meeting in London, the G-20 leaders committed to providing the stimulus needed to underpin global recovery, while ensuring consistency with long-term fiscal sustainability and price stability, and to continue to pursue regulatory reform of the financial sector. This included the transformation of the Financial Stability Forum into the Financial Stability Board (see below), and agreement to extend regulation and oversight to all systemically important institutions, instruments and markets. To respond to a potential increase in calls on IMF resources, the G-20 leaders committed to trebling the resources of the IMF to US$750 billion and to support at least US$100 billion of additional lending by multilateral development banks. The G-20 is now preparing for a third meeting of its leaders later this year.

During the year, the G-20 published a report by a Study Group on Global Credit Market Disruptions, led by the Reserve Bank. The G-20 also held workshops involving private sector and academic experts; one was on the ‘Economic and Financial Implications of Climate Change’, held in Sydney and jointly hosted by Australia and the United Kingdom, and the other on the ‘Causes of the Crisis: Key Lessons?’

Financial Stability Forum (FSF)/Financial Stability Board (FSB)

The Financial Stability Forum was established in 1999 in the aftermath of the Asian financial crisis to promote international financial stability, improve the functioning of financial markets and reduce the tendency for financial shocks to spread. Its membership comprised national authorities from the G7 countries, central bank representatives from a number of other countries, including Australia, as well as international organisations such as the IMF, the Bank for International Settlements and the Basel Committee on Banking Supervision.

Since the onset of the financial crisis in 2007, the FSF had done a significant amount of work to address the underlying causes of the financial crisis, which it outlined in its April 2008 Report on Enhancing Market and Institutional Resilience. It subsequently followed up with its members on the implementation of the recommendations it made. This work was done in consultation with other international bodies, particularly the G-20.

As part of this process, FSF working groups examined issues related to procyclicality and its relationship with bank capital, provisioning, valuation and leverage, as well as best practices in executive compensation. Senior Reserve Bank staff participated in the Working Group on Valuation and Leverage (see more details below), while senior APRA staff were members of the executive compensation and provisioning working groups. As part of this work, the FSF has:

• put forward a number of proposals to strengthen the Basel II regulatory framework, which includes increasing the risk-weights for resecuritised assets, as well as improving the quality of banks' capital with an increased emphasis on ordinary equity, rather than hybrid equity;
• investigated the feasibility of using macro-prudential indicators to reduce excess procyclicality in the financial system;
• sought to establish supervisory colleges for around 30 systemically important global banks;
• proposed principles on co-operation on cross-border crisis management; and
• recommended greater convergence of arrangements for deposit insurance.

Coinciding with the G-20 Leaders' Meeting in April 2009, the FSF announced that it would be re-established as the Financial Stability Board with broader representation and a stronger mandate for financial stability. In addition to the original FSF members, the FSB now includes representation from the remaining G-20 countries plus Spain and the European Commission.

In the process, Australia gained a second seat, which has been filled by the Australian Treasury. The mandate of the FSB has been broadened to include monitoring market developments, advising on the implications for regulatory policy, setting guidelines, providing support for supervisory colleges and working with the IMF on early warning exercises. The first plenary meeting of the FSB was attended by the Governor in Basel in June 2009.

Under the FSB, there are four permanent committees, which, in most cases, have the same objectives as the existing groups that met under the auspices of the FSF. The Governor will represent the Bank on the Steering Committee of the FSF and on the vulnerabilities assessment group.

As a requirement of its membership of the FSB, the Reserve Bank, in conjunction with APRA, ASIC and Treasury, has been actively involved in making sure that Australia's system of financial regulation remains world's best practice and in compliance with the international standards.

Bank for International Settlements (BIS)

The BIS and its associated committees have been extensively involved in the international response to the global crisis, and have continued to play an important role in bringing together high-level officials from central banks to exchange information about the current economic and financial environment.

The Governor or Deputy Governor attended the regular bi-monthly meetings of the BIS governors, which discussed the evolution of the financial crisis, the vulnerabilities revealed in the financial sector and their effect on the real economy. Discussion focused on particular challenges faced by central banks during the financial crisis, including the provision of liquidity to the financial system, the need by some countries to respond to insolvent or failing institutions and the adoption of unconventional monetary policy by some countries. The Governor also participated in the Asian Consultative Council, which focuses on financial and monetary developments in Asia and provides direction for the work of the BIS in Asia.

The Assistant Governor (Financial Markets) represents the Reserve Bank on two BIS committees – the Committee on the Global Financial System (CGFS) and the Markets Committee. The CGFS discusses vulnerabilities in the global financial system and structural developments in financial markets, while the Markets Committee focuses on the short-run implications of current events for the functioning of financial markets. Over 2008/09, the CGFS published reports on: the role and valuation of leverage on procyclicality (jointly with the FSF); capital flows to emerging markets; ratings on structured finance products; central bank operations in times of a financial crisis; the effect of leveraged finance; and the effects of private equity and leveraged buyouts on incentives and corporate structures.

The Reserve Bank has been represented on a number of CGFS working groups over the past financial year. The Assistant Governor (Financial Markets) co-chaired a working group that investigated the impact of the crisis on cross-border funding and lending strategies of international banks. He also participated in a group that examined the liquidity provision by central banks, which, inter alia, provided the underpinnings of the swap lines established among central banks over the past year, and a group that assessed the options available to central banks in conducting unconventional monetary policy. The Head of Financial Stability Department participated in the joint CGFS/FSF Working Group on Valuation and Leverage in Procyclicality. This group, in combination with the Working Groups on Bank Capital and Provisioning, examined the forces that contribute to procyclicality in the financial system, suggested options to mitigate it and contributed to the publication of a report by the FSF in April 2009 on Recommendations for Addressing Procyclicality in the Financial System. A senior manager from the Financial Markets Group participated in a CGFS working group that reviewed the effectiveness of statistics available for understanding credit risk transfer markets and participated in the Review Group for the BIS/ECB/IMF Handbook on Securities Statistics, which is a subgroup of the Working Group on Securities Databases. Finally, the Bank also contributed to the CGFS collation of information on financial sector rescue plans, which will, in turn, enable work to be undertaken to assess their effectiveness.

The Assistant Governor (Financial System) will represent the Reserve Bank on the Basel Committee on Banking Supervision (BCBS), following the expansion of its membership in April to include all representatives from the G-20 countries as well as Hong Kong SAR and Singapore. As the architect of the Basel II framework, the BCBS has worked intensively over the past year on strengthening guidance on liquidity risk management and supervision, fair value practices, stress-testing principles and other aspects of financial sector regulation. The Head of Payments Policy Department will represent the Bank on the recently expanded Committee on Payment and Settlement Systems (CPSS). The CPSS provides a forum for central banks to monitor and analyse developments in domestic payment, clearing and settlement systems as well as in cross-border and multi-currency settlement schemes. Its recent work has focused on interdependencies between payment and settlement systems and clearing and settlement of over-the-counter (OTC) derivatives. It has also started work with the International Organization of Securities Commissions on a review of the standards applying to risk management in central counterparties.

A number of senior officials from the Reserve Bank were seconded to the BIS during the year, at both its Basel headquarters and at its Asian representative office in Hong Kong, and a number participated in various conferences organised by the BIS.

International Monetary Fund (IMF)

The financial crisis has increased the pressure for further reform of the IMF, including greater representation of emerging market economies and stronger governance. It has also resulted in the IMF reviewing its surveillance activities so as to be better placed to identify and respond to future episodes. The G-20 has asked the IMF to undertake some work in response to the financial crisis, including research on the causes of the crisis, analysis of its likely effects and policy advice to mitigate the most adverse of these.

The Reserve Bank works with the Australian Treasury to provide regular briefing to Australia's Constituency Office at the IMF on the issues being considered by the IMF Executive Board and in the governance of the IMF. In order to contribute further to the capacity of the Constituency Office, the Bank has provided an advisor to work at the office who has expertise in the areas of capital markets and financial systems. The Bank also provides support to other IMF activities – the Assistant Governor (Banking and Payments) is participating in the IMF's Financial Sector Assessment Program in Indonesia and has also been involved in technical assistance programs on stress-testing capabilities in Indonesia and Malaysia.

The IMF conducts an annual review of member countries' economic situation and policies, known as an Article IV Consultation. The 2008 report for Australia was published by the IMF in September 2008. As input to the 2009 report, a mission team from the IMF visited Australia in June and, as is customary, spoke with the Bank's Governor and Assistant Governors. The report was published in August.

Executives' Meeting of East Asia-Pacific Central Banks (EMEAP)

The Executives' Meeting of East Asia-Pacific Central Banks is an important regional forum, in which the Reserve Bank is extensively involved. It brings together representatives from 11 countries in the East Asia-Pacific region – China, Hong Kong SAR, Indonesia, Japan, Korea, Malaysia, New Zealand, Philippines, Singapore, Thailand and Australia – to discuss monetary and financial stability, seek ways to foster closer co-operation, and exchange information and expertise on issues of common interest. The Bank participates in EMEAP at a number of levels from the Governor down.

As with other international groups, the focus of discussion in the past year has been the effects of the global financial crisis and how the represented economies should be responding. The financial crisis has affected most of the represented economies in very different ways from the large developed economies, and differences in the structure of financial sectors in the region have called for some differences in response. At the deputy governor level, a dedicated Monetary and Financial Stability Committee (MFSC) has focused on the implications of the financial crisis for the region's financial sectors. This committee met twice during the past year and has also held teleconferences on several occasions to exchange information during periods of acute uncertainty in financial markets.

Three working groups report to the deputies and support the surveillance work of the MFSC: the Working Group on Financial Markets; the Working Group on Banking Supervision; and the Working Group on Payment Settlement and Systems. In addition to their regular work program, these working groups have reviewed the recommendations made by the FSF and G-20 and have discussed their implications for the EMEAP region. Each year, one meeting and one workshop are held for IT Directors. The most recent workshop was hosted by the Reserve Bank in Sydney.

EMEAP is involved in the establishment and ongoing oversight of Asian Bond Fund 1, a US dollar denominated Asian bond fund, and Asian Bond Fund 2, comprising eight local currency indexed bond funds, and a Pan Asia Index Bond Fund (PAIF). Until recently, the PAIF was listed only in Singapore; however, in June 2009, it was cross-listed on the Tokyo Stock Exchange, which should increase its attractiveness as an investment for domestic Japanese investors.

Government Partnership Fund (GPF)

In 2008/09, the Reserve Bank continued its program with Bank Indonesia (BI), under the Australian Government's Government Partnership Fund, which has been running for the past four years. This program is designed to share skills and knowledge between Australian and Indonesian public-sector institutions.

The core focus of the Reserve Bank's program with BI was originally centred on building capacity in the areas of monetary policy, financial markets and financial stability. However, over time, the activities have broadened to cover all aspects of central banking, including note issue, auditing and human resources. In 2008/09, the program involved 32 staff exchanges between the Bank and BI, with the visits ranging between a few days and a few weeks. This brings the number of exchanges between the two institutions to just over 100 since the inception of the program.

Among the visits by Reserve Bank staff to BI, in July 2008 a senior manager from the Bank conducted the second of a series of workshops on money market operations to support the reforms enacted by BI in this area. Several officers from the Bank's financial markets area held a workshop on reserves management and portfolio investment strategies. Visits by BI officers to the Bank related to a wide variety of activities, including central bank communication, regional economic analysis, the payments system and risk management. One of the new developments of the program was the production of a training DVD on cash processing and distribution in English and Bahasa Indonesian for use throughout BI. As a result of the program, the relationship between the two organisations has strengthened considerably.

South Pacific Central Bank Co-operation

In December 2008, the Reserve Bank hosted the annual meeting of the South Pacific Central Bank Governors. This meeting brings together the central bank governors of those countries within the Pacific region that have their own currencies – Fiji, New Zealand, Papua New Guinea, Samoa, Solomon Islands, Tonga, Vanuatu and Australia – to discuss economic issues of particular interest to small island economies. Representatives from the IMF's Pacific Financial Technical Assistance Centre also contributed to the meeting. The main issues discussed at the meeting in Sydney focused on recent economic developments, notably the effects of the global financial crisis on the Pacific region, the significant changes in food and fuel prices and the implications for policy-makers. Longer-term issues relating to the principles of central bank communication and the payments system were also discussed.

The Reserve Bank continued to foster closer ties with the South Pacific countries through an exchange of staff. A Reserve Bank staff member was seconded to the Reserve Bank of Vanuatu, while a delegation from the Bank of Papua New Guinea visited Sydney to discuss the Bank's foreign exchange trading platform. Several senior officers from the National Reserve Bank of Tonga also participated in management courses conducted for Reserve Bank staff.

Bilateral Relations and Co-operation

As in previous years, the Reserve Bank continued to receive a number of visitors from overseas. Predominantly from foreign central banks, the visits covered the full range of the Bank's activities, and included delegations from Chile, Kenya, Korea, Mozambique and the Philippines.

A second senior officer from the Reserve Bank of India (RBI) visited the Bank for three months under the auspices of an ongoing exchange initiative entered into during 2007/08. To date, one officer of the Reserve Bank has undertaken a placement at RBI's head office in Mumbai.