The year has wrapped up and it seems like an appropriate time to look to the future. The role of financial regulation and financial intermediation has been continuously expanding and altering in the years since the global financial crisis. In this piece, I am not going to discuss the importance of financial regulation and how it has an impact on economic growth. This piece is going to cover how a key trend might play out in 2015 and beyond. That is, the trend of the adjustment of products and services offered by financial institutions.

There has been a very clear shift in both the scope and the intensity of financial regulation. A top central banker recently emphasized that it is not new rules which are most important, but the principles behind these rules. However, it should be further emphasized that principles-based regulation is not a panacea to global financial woes. It is something that needs to have a complementary enforcement structure that incorporates a high degree of vigilant supervision from regulatory and enforcement bodies, including both state and decentred actors. Canada is an excellent example of how such principles-based regulation can be implemented with visible success. In the Canadian financial regulatory regime, there is a comprehensive system of supervision, surveillance, enforcement, and guidance that aims to ensure the safety and soundness of the Canadian financial system in addition to encouraging growth and innovation, rather than prove to be stymying force. Therefore, the maintenance of this balance between financial safety and healthy market forces is essential for a stable economy.

In response to changing regulatory requirements, it has been evidenced that market forces have directly reacted through the adjustment of business lines by financial institutions. More specifically, business lines that are risk-heavy, either in real or perceived risks, are being dropped. The motivation behind this is to decrease the level of activities in areas where regulatory risk weights are increased.

The result of such shedding of business lines brings into question the future existence of large multinational institutions that offer a wide variety of products and services. Will such universal banks disappear entirely? In all likelihood, this will not be the case. Some are certainly simplifying their structures to decrease complexity, but will continue to exist and be successful as long as there is a demand by global clients, both individual and institutional, for their services.

A retreat from these areas by one actor naturally creates an opportunity for other actors to enter the arena. These are the forces of competition and substitution at work. Additionally, the retreat can act as a stimulant for future safe financial innovation – for example, how can products that are widely characterized by their high levels of risk be adjusted to decrease such levels?

Overall, it is often argued that financial regulation is too costly for business; that it stifles their ability to effectively compete and offer innovative products and services. However, real and perceived costs of regulation are nowhere near as material as the direct and indirect costs of large-scale global financial crises. Ex ante regulation was lacking and ex post responses are widespread. But such regulatory reform was, and is, a necessity. As discussed above, evolving financial regulation is adjusted to by businesses and market forces subsequently allow for a healthy competitive environment to continue.