Three models of financial regulation

Sharks circle Paulson's Aussie plan;

To simplify heroically, there are three main models of financial regulation in operation around the globe. The first is functional regulation, whereby separate regulators oversee different types of financial company. Most countries have moved away from that model, on the solid grounds that financial markets themselves have become more interlinked and companies more promiscuous. The US is a prominent exception. Americans have remained as committed to a highly complex form of functional regulation as they are to suit trousers that ride above the ankle.

The second model is unitary regulation, with a single institution covering most if not all of the financial sector. Although this model is often associated with London and the Financial Services Authority, the Scandinavians started the trend on the back of the banking crises there in the early 1990s. Following the UK switch a number of other countries, including Japan, South Korea and Germany, did the same. Now more than 50 countries operate something similar, although no two models are precisely the same. Time was - way back in August 2007 - when the unitary authority strategy was carrying all before it. In the ANR era (After Northern Rock) some of the gilt has gone off that brand, although the underlying logic remains strong.

The third scheme is known in the trade as Twin Peaks - a long-forgotten US television series not adorned by Kylie - whereby two regulators are established: one for prudence, focusing on capital soundness, and one to monitor the general conduct of business standards. So far only two countries have followed this prescription, originally devised by UK academics: Australia and the Netherlands. They have done so in subtly but importantly different ways. In Amsterdam the central bank is the prudential regulator. In Sydney there is a separate authority, leaving the Reserve Bank withscrutiny of the payments system and responsibility for financial stability.

After a brief global tour the US Treasury has come to rest near Sydney Harbour, a very agreeable location, one must admit. The Paulson plan would strip the Fed of its direct role in supervising bank holding companies and give it instead a broad remit to look for trouble across the financial system. In an important sentence in his speech Mr Paulson gave a hint of his reasoning, and a clear warning to the investment banks. "It would be premature to assume," he said, "these institutions should have permanent access to the discount window and permanent supervision by the Fed." The Treasury is clearly nervous about the growing assumption in the markets that brokers will continue to be able to deposit mortgage securities, food stamps and dead mice at the discount window in return for hard cash. I suspect this will be a hard proposition to sell to Congress, however logical it may be.