Netherlands Bank’s Knot says regulation is inadequate

Intensifying financial regulation will help cure some of the banking sector's ailments, but more needs to be done, said Klaas Knot, president of the Netherlands Bank and former chair of the Basel Committee on Banking Supervision's risk management and modelling group, in a speech on November 12.

Knot told a conference in Amsterdam that banks will become healthier as regulation addresses both their tendency to over-leverage and the shortage of capital in the sector, but this will come at a cost. For customers, financial products will become more expensive, while banks' profits will fall. Moreover, intensified regulation will make certain business models less appealing – such as long-maturity asset portfolios financed with short-term paper – although this could be desirable, he said.

Regulation is not the solution to every problem, Knot said, as it does not necessarily incentivise the banking sector to return to servicing the real economy. Activities such as proprietary trading could remain among banks' chief pursuits. "A disconnect between the interest of the bank and that of the customer still occurs too often," he said.

Michael Cohrs, a member of the Bank of England's Financial Policy Committee, echoed the sentiment that regulation alone will not suffice during a speech at the University of the West of England in Bristol today (November 13). Cohrs said it was important to avoid creating severe regulation that removes the incentive for banks to continue their operations, resulting in the "stability of the graveyard".

He acknowledged reforms proposed by the likes of Paul Volcker, Erkki Liikanen and Paul Vickers' are a step forward, but said they wouldn't necessarily make financial institutions "much less likely to fail".

To make financial institutions more secure requires culture change, Cohrs said, and a lot of work remains to create institutions that produce the best product possible and prioritise client's interests. "I don't think this can be forced down from the regulators, although we can help by ensuring incentives relating to conduct are appropriate," he said.

The Dutch governor said it could be fatal for institutions to ignore the real economy and its participants. "No bank will survive that does not set its clients' interests centre stage instead of sales targets or profits," he said.