The past couple of decades has witnessed developments that have exacerbated two long-standing sets of problems in the trading of risk. The first is that the pace of product innovation in financial markets, both in exchange-traded instruments but especially in the over- the-counter (OTC) market where designer financial engineering is rife, has outstripped our capacity to understand, let alone price these products. Nor have regulators and supervisors kept up.
Some of these structured finance products are so complex that even their designers probably don
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The second problem, highlighted by both is that increasing numbers of financial institutions operate across many different national jurisdictions. Supervision and regulation are organised at the national level. Cooperation and coordination attempts are forever chasing new institutions and new instruments. One can only hope that the development of EU-wide supervision and regulation of financial institutions and markets will permit a significant reduction in the number of ad-hoc arrangements that needs to be concluded.
The problem of global financial markets and global financial operators running circles around national supervision and regulation is aggravated by regulatory competition between nations, which often makes for a race to the bottom, with minimal regulatory and supervisory demands being made on systemically important financial institutions. Many, including most hedgefunds and private equity funds, have at most rudimentary reporting obligations.
When even self-regulation (which really means no regulation at best, and at worst no regulation plus cartelisation of the industry) is considered too onerous, and when voluntary codes of conduct are sniffily rejected, it is clear that we have created and informational black hole and an increasingly under-regulated financial system where no-one knows who owes what and to whom.