Crises, consumers and growing controls: trends in financial regulation in South America
GC considers key themes among the regulatory approaches of South American countries to the financial sector.
In line with the rest of the world in the wake of the Global Financial Crisis, the last decade has seen South American countries apply increased regulatory scrutiny. Unsurprisingly, the financial sector has been at the epicentre of a wave of regulatory reforms sweeping across many of the region’s biggest economies.
‘It is estimated that there is a new law, norm or regulation issued in the country every two minutes,’ says Claudia Politanski, vice president of legal at Brazil’s Itaú Unibanco.
Expanding regulatory requirements are reshaping the way that legal departments add value, as senior management increasingly turn to their lawyers to ensure standards are high.
‘The legal team takes on the much more strategic role of constructing products and services jointly with the business and technology areas,’ says Politanski.
‘Regulators and the public in general are having more scrutiny of how companies in general (not only in the financial sector) are perceived to be good corporate citizens,’ adds Alejandro Rubilar, senior country counsel for Chile at J.P. Morgan Chase.
‘That triggers a need to comply with the regulators in a more detailed, comprehensive way and trying to find out the spirit of such rules. It’s a matter of empowerment of the public and consumers in general.’
This trend might be a global one, but in the context of this often-volatile region, where politics can have a dramatic impact on financial (and regulatory) policy, the view of the ordinary consumer can be powerful. Whether a country is in its election cycle (as well as its predilection for the free market) can have a marked effect on the amount of regulation businesses operating are expected to absorb.
‘In an evolving regulatory climate, the efficacy, transparency and accessibility of regulators is key.’
Gregory Harrington is a partner at law firm Arnold & Porter, with a long experience in financial transactions in South America. He points to Argentina and Brazil as being among the most active regimes in terms of issuing new regulation, as each works to address different domestic issues.
‘Argentina has been working to modernise its capital markets regulation, to catch up with other markets now that the Argentine issuers in capital markets have found new feet,’ explains Harrington.
‘The Brazilian Central Bank has been very active in seeking to make the Brazilian financial system more efficient.’
Local concerns are a big part of the picture, but a common theme when talking to GCs across the region was the importance of engaging with developments taking place at the global level. As regulators and companies grapple with adhering to OECD best practices, participating in discussions at the G20, IMF, and the World Bank, as well as implementing international prudential regulations such as Basel III, the global voluntary regulatory framework for banks, the onus is firmly on the in-house legal team to ensure that their institutions are compliant, both to the letter and the spirt of the law.
‘They make up their own minds,’ explains Harrington, ‘but the regulators of Latin America are part of that global discussion – of what’s appropriate in financial markets and financial institution regulation. Latin American regulators are participating in those discussions and seeking to bring best practices back to their home country, and to see if they make sense given the context of their own economies.’
Harrington points to Brazil, Colombia and Peru as being particularly active in this context, in many cases resulting in alignment with the regulatory frameworks of jurisdictions like Europe and the US.
Joao Vicente Camarota is head of legal for South America at Morgan Stanley, based in Brazil.
‘A good thing about Brazil is that we will look at experiences outside of Brazil before we enact new rules,’ he explains. ‘At Morgan Stanley, that’s very helpful, because it makes it a little easier to comply with local regulation, but also with what we already do outside of Brazil – one rule is inspiring the other, so they should be looking at the same north.’
In a similar vein, alongside its work to implement Basel III, Chile is aiming for alignment with other global standards.
‘The World Bank, for instance, came to Chile in 2015 and 2016, and they took a look at existing regulations. There have been a number of gap analyses conducted by risk global institutions to review what type of improvements could be made in Chilean regulation,’ says Rubilar.
‘There is a new Chilean Banking Act that is currently under discussion in the Chilean Congress, which adopts and recognises those suggestions from the World Bank.’
Increased uniformity between national and international regulations makes for an easier life for foreign institutions seeking to understand the regulatory environment of target markets. However, alignment in this respect doesn’t necessarily remove all regulatory obstacles. Brazil, for example, has a highly regulated financial system, but Camarota argues that poor staffing impacts the efficacy of its regulators, particularly when importing best practices from elsewhere:
‘Sometimes they don’t carry all the necessary knowledge of the markets that they need to regulate. So sometimes they will just copy the rules and then if you change one comma here, one word there, all of a sudden you’ve lost all of the purpose of what you’re trying to get at,’ he says.
‘If you don’t feel comfortable that the regulator will spend the necessary time in understanding and treating you fairly, the easiest way is to be conservative and stop doing innovative, more complex trades.’
Taking the Lead
Yet, in many respects, Brazil is leading the regulatory charge among South American countries – the silver lining to its cloudy economic past. A history of hyperinflation, failed economic plans and currency changes has led to the evolution of a complex – and highly regulated – financial system, even before the 2008 Global Financial Crisis. The country’s strict regime has been, in some cases, a step ahead of regulation elsewhere in the world.
Similarly, a historical crunch in the Chilean banking sector resulted in reforms that stabilised the country’s economy.
‘Banking regulation enacted in Chile in the early 80s following a banking crisis has become a model in a number of Latin American countries,’ says Rubilar.
‘A stable and growing economy and sound public policies has contributed to a strong local financial system, which although not immune to global turbulences because of its interconnectedness, has proven to be quite resilient to international instabilities – particularly during the last global financial crisis,’ he adds.
In an evolving regulatory climate, the efficacy, transparency and accessibility of regulators is key – but there is some variation across South America.
‘Regulators tend to be less accessible where they don’t feel that the authority has been fully delegated to them – some people are afraid to make decisions, to not exceed their authority in case it isn’t as much as they think it is,’ says Harrington.
He points to the Brazilian Central Bank (alongside Colombia and Peru) as one of the region’s more accessible regulatory institutions. For example, as part of its ‘BC+’ programme to improve efficiency across the Brazilian financial system, the regulator has mandated defined response times for responding to requests, for example, 12 months to review applications to establish a new financial institution, and three months to review proposed changes to by-laws.
‘That’s meaningful, since it gives banks a more predictable period in which to plan their affairs,’ explains Harrington.
‘I think that’s a major step forward. I’m not familiar with any other country in Latin America that has that.’
Brazil is noted for the clarity of its regulation, with its prescriptive system leaving less room for ambiguity than some regimes. Sharon Diazgranados Peluffo, legal director at Colombian financial services company Corficolombiana, notes an occasional opacity in new financial regulations issued by the various regulators in Colombia.
‘Sometimes it’s not exactly clear the scope or the interpretation of some rules, so there are grey areas. We have to ask sometimes for specific legal opinions from law firms, so we have the backup,’ she says.
As well as the potential vagaries of domestic regulatory regimes, financial institutions in South America with global reach must contend with the extra-territorial impact of regulations devised elsewhere, such as the Volcker Rule under Dodd-Frank enacted in the US.
‘We have to comply with regulations that are not issued by our regulators, and that’s another challenge that we have to face in this financial world, which is becoming more global. If we don’t want to be subject to them, we have to stop dealing with those offshore banks,’ says Peluffo.
Another area where the gaze of global forces can be felt by financial institutions operating in South America is through the application of financial sanctions, for example those imposed on Venezuela by the EU and US.
Alongside the additional effort required by legal and compliance teams to understand the extra-territorial scope of regulations issued in the financial context, foreign political and economic machinations that are not specific to the financial sector will nonetheless have a significant impact on banks and other finance companies. Complying with sanctions, like those imposed on Venezuela by the EU and US, requires analysis and a careful approach.
The European General Data Protection Regulation will impact companies with European customers. But data protection is also a key theme of domestic regulation, as regimes look to upgrade not only the systemic integrity of systems from a cybersecurity standpoint, but the sturdiness of their data governance.
In Colombia, for example, companies are required to register the existence of all databases containing personal data by June 2018, and adhere to various obligations to the data-owners included on them.
‘A lot of international and local banks do not use local servers or local providers of technology for the purposes of administrating data. You use parties abroad, who could be anywhere in the world. So this poses a big challenge as to how the regulator expects you to operate, and the extent of the authorisation that you have to obtain from the owner of the information in order to be able to administrate it as you need from a business perspective,’ explains Francisco Baquerizo, general counsel and company secretary at Citibank Colombia.
‘The regulator for the purposes of data protection, the Superintendence of Industry and Commerce, has huge penalties and huge sanctions that are even greater than the ones the Financial Superintendence of Colombia has over the banks.’
The drive for equality in the relationship between consumers and financial institutions represents increased costs, says Baquerizo, which means that banks have to scale their business accordingly. However, he says, rather than acting as a disincentive to operating in the consumer space, these challenges encourage invention.
‘You have to be more innovative, rendering the same types of service on more electronic platforms, with less manual processes, so the cost of operating continues to be low and the charge makes sense against the product you’re offering,’ he explains.
‘We’re trying to think differently. And banking has changed. People want to start purchasing banking products as you purchase things on Amazon. Or they want opening a bank account to be as simple as opening a profile on Airbnb. So that’s the challenge that we have. Regulation poses a lot of requirements to identify the customer and security, but you have to find a mix that makes sense from a legal perspective and being competitive from a market perspective – because that’s what the market is asking for.’
The need for creativity has led to a surge in technology-based platforms both within established players and startups. Fintech is therefore becoming a focus of regulators in jurisdictions like Brazil (as well as Mexico in Central America) as they struggle to balance support for innovative systems such as peer-to-peer lending, with consumer protection.
Claudia Politanski describes the importance of consumer protection across all sectors – including finance – in Brazil, which has around 900 ‘Procons’ assisting consumers in defending their rights, consolidated through SINDEC, the National Consumer Protection Information System. ‘I believe that we have, in Brazil, the most mature and well-structured consumer protection system,’ she says.
On the technology side, however, Politanski cites the ‘long process ahead involving regulation of digital products and services.’
‘As an example, our Brazilian Central Bank has proposed a public hearing regarding rules for fintechs and cybersecurity. Society has been undergoing a profound transformation with the advent of new technologies, and it is essential that our legislation keeps pace with this development – which, in the case of the financial sector, is just beginning.’
Harrington believes that the Latin American approach to regulation leads to a more conservative view of risk, despite the growth in the fintech sector.
the Latin American approach to regulation leads to a more conservative view of risk.
‘In this sense, I tend to think of the Latin American jurisdictions as the opposite of the US,’ he says. ‘In many jurisdictions in Latin America, it’s seen as prohibited unless it’s permitted, whereas in the US it’s generally permitted unless it’s prohibited. In the US, you have people taking more risks in areas where you’re not sure how it’s going to be regulated, while in Latin America, people tend to wait to see how the regulations are going to play out before making heavy investments.’
But conversely, Harrington says that innovation could actually strengthen financial institutions, while tackling other issues that governments in the region are grappling with.
‘Some economies are significantly underbanked, and access to traditional banking services is low. You want to increase responsible lending, while at the same time maintaining the safety and soundness of your banking system. Fintech might be an answer to that, where you’ve got peer-to-peer lending and lending outside the traditional banking channels, so you’re not affecting necessary depository or systemically important institutions,’ he says.
Baquerizo describes a similar challenge in rural Colombia, where underbanking has led to a rise in lending by loan sharks, or people falling victim to investment scams. As an incentive to banks to operate in these regions, the government has passed regulation that allows them to broaden the reach of branch networks.
‘Citi has started to spread the operation and the presence in the country, not by opening branches in all the cities, but by having agreements with main supermarkets or different brands where you can, under certain conditions and subject to some restrictions and regulations, allow a person to make a transaction with the bank to disburse amounts from their current account or make a payment for an activity, when they are buying their groceries,’ he says.
South America is a diverse region, and its countries face complex and varied domestic challenges – such as Brazilian attempts to deal with the fallout of recent corruption scandals, or Colombia’s contentious peace process and ambitious 4G infrastructure programme. But whatever the internal priorities, what looks certain is that the trend in many markets towards expanding financial oversight is set to continue – meaning that regulators, financial institutions, their consumers, and inevitably their lawyers, will have to remain open-minded and ready for more change.