Regulators' next big question: who knows what?
Transparency has been among the top priorities of regulators and policy makers in the post-crisis era, but they don’t seem to understand what kind of information is important or when it becomes so.
The two most obvious illustrations of this maxim are in the Markets in Financial Instruments Directive II (MiFID II) and the Minimum Requirement for Own Funds and Eligible Securities (MREL).
The former will inundate markets with so much information as to render it all but meaningless. Meanwhile, no one has any idea what impact the latter will have on banks' capital levels, even though it comes into effect at the start of next year.
Under MiFID II, market participants will have access to a sea of information on trades in financial instruments — data that could, unbelievably, even include traders’ national insurance and passport numbers, according to one regulation specialist.
One oft-touted fear is that the rule could paralyse markets by making sensitive information public to competitors. Regulators' desire to make most market players’ positions public seems to represent a fundamental misunderstanding of the nature of markets.
It’s clear where MiFID II comes from. Market pros and talking heads are fond of the oversimplified dictum that increased information increases market efficiency. But not all information is good information.
For trades that fall under the rule's definition of large-in-scale, post-trade reporting will be subject to a temporary delay, easing some fears (though possibly giving rise to regulatory arbitrage, given that the extent of the delay is implemented by each jurisdiction's National Competent Authority — it might end up being that in Germany some trades have a 48 hour reporting stay, while in France it is four weeks, for example).
But there will be instances when MiFID II results in unfair imbalances. Smaller investors may not have positions large enough to qualify as large-in-scale, for instance, but direct competitors will likely be able to tell whether a given position represents a significant one for that firm, letting them target competition and help force pricing to their disadvantage.
Such problems aren't MiFID II's only drawbacks. Any market participant will happily fill your ears with the directive's potential contradictions and unintended consequences, ranging from the absurd to the terrifying.
MiFID II shows regulators have constructed (another) rule largely based on a misconception. Which policymaker in her right mind, to make a comparison, would force homeowners to disclose how badly they need to sell their home when taking it to market?
Which brings us to the opposite problem in MREL. The amount of MREL each bank must hold is undisclosed to the market, meaning investors won’t be able to gain a truly meaningful picture of any given bank’s balance sheet. The method by which MREL levels will be set is opaque, and therefore the amount of MREL a bank must burn through before being able to ask for taxpayer help is unknowable.
Even the language of the rule appears to be inconsistent, given the context of bail-in. Banks must use up to 8% of bail-inable liabilities “at the point of resolution”, which would seem a stark contradiction. Some regulators have attempted to clarify that point, saying it is intended to mean after equity is depleted and assets are marked to market for disposal. But then other questions arise, such as over what timeframe?
Policymakers and regulators need to put more thought into what kind of information actually benefits a functioning market and when.
Without such reflection, they risk preventing the very outcome these rules are meant to achieve.