03 April 2013

Paper on cost-benefit analysis of new regulations

Linked here is the paper on Regulatory Impact Assessment, released by us with Indian Merchant Chambers today at the hands of Chairman, SEBI. Please find below the summary and conclusion in case you don't have the time to read the 40 page paper.

X. Summary and Conclusion
67. In summary, it is evident that conducting an impact analysis is not a novel concept, or one whose importance may ebb with the passage of time. The calls for conducting such exercises on the larger regulatory environment, rather than just for securities regulations, have been growing for a while and may soon find their way into institutional discourse and become de rigeur.[ ]

68. Some of the salient features of RIA that this paper draws attention to are:
globally, policy makers are increasingly valuing regulation that produces desired results as cost-effectively as possible and one of the best tools available for such business-friendly norms is conducting a participative-RIA;
RIA can throw up results which show that “doing nothing” is a real option, particularly where action, or the cost of creation of regulation, can far outweigh the perceived benefits that may accrue;
an RIA must be integrated with a public consultation process, as this provides better information to underpin the analyses;
RIA is primarily a methodological approach that allows for the ex-ante or ex-post outcomes to be assessed against the goals set for the regulation;
The costs of financial regulation can usefully be broken down into three broad categories: direct costs, compliance costs and indirect costs;
A Regulatory Impact Statement (“RIS”) must be presented to decision makers so that the decision is informed by an assessment of best available information. After a decision has been made, the RIS needs to be made public in order to disclose the basis of such a decision;
A cost-benefit analysis is expected to help regulators and the concerned decision-makers think through what each proposed rule intends to accomplish and what the acceptable costs of achieving those objectives might be;
An RIA will be an efficient method of identifying long-term costs and benefits as opposed to the immediate costs and benefits that are visible without it. This assumes importance since regulations are drafted to serve its purpose for considerable periods of time.

69. RIA is not against regulation. It is not against a decrease of regulatory authority either. What it stands for is smart regulation, where the regulator can develop mechanisms for enforcement of its mandate, achieve its objectives in a manner which costs the least and investigate and repeal the provisions that place an unnecessary burden on entities without any justifiable benefit and reduce the larger economic costs, at the same time. Through an analysis that makes clear the benefit of any regulatory decision, it is expected that the market regulator may be able to keep track of the unexpected changes, if any, that its regulations may bring about at the operational level of the entities being proposed to be regulated.

70. It may also be worthwhile to take guidance from the Planning Commission of India[ ], which points out that India’s business regulations lack ‘Periodic Review Clauses’, prohibiting an automatic review of their functioning and efficacy from time to time. It further goes on to state that though these provisions get reviewed only on the basis of complaints/challenge or a clamour against them by the concerned stakeholders, it is neither comprehensive, systematic or of a structured nature. Calling for conducting of high-quality RIA, it draws significant lessons from the international experience with impact analysis and calls for its use as an innovative governance tool in the Indian context.

FSLRC Report
71. The Report of the Financial Sector Legislative Reforms Commission (“FSLRC”), released in public domain on 28 March, 2013, makes certain critical recommendations consistent with this paper.

“An analysis of the costs and benefits of the proposed regulation. This is required because every regulatory intervention imposes certain costs on regulated entities and the system as a whole. The Commission recommends that regulations be drafted in a manner that minimises these compliance costs.
In some cases where a pure numerical value based cost-benefit analysis is not possible, the regulator should provide the best possible analysis and reasoning for its choice of intervention.
After publishing the above documents, the regulator will specify a designated time for receiving comments from the public on the regulations and the accompanying documents. The draft Code will ensure that the time period and the mode of participation specified by the regulator is appropriate to allow for widespread public participation.”
[Page 31-32 of the Report]
72. Chief amongst those recommendations, keeping in view the essence of this paper, is the requirement to institutionalise cost-benefit analysis and make it a vital part of the regulation-making and guideline-making process for the proposed unified regulator for India’s financial system. It lays down the processes to be followed and most crucially, allows the invocation of the proposed Financial Sector Appellate Tribunal’s jurisdiction to review  any regulation or general guidance issued on the grounds of being contrary to the proposed Act, including on the following grounds:
(a) in the case of regulations, there was a material and substantial error in the analysis of costs or the analysis of benefits; or,
(b) the regulations were in gross disregard of the principles that the Financial Agency was required to follow while making the relevant regulations;

73. This provision is ground-breaking. Not so much as because as it mandates a cost-benefit analysis to be undertaken, but allows for a challenge to be mounted against the manner and methodology that may be adopted by a regulator while conducting an assessment. This will allow focused questioning, more oversight, positive accountability and most importantly, best-practices to be introduced into regulatory decision-making, after an in-depth consultation with stakeholders and legal experts.

74. The recommendations made by the FSLRC, with respect to mandatory cost-benefit analysis as a part of regulatory rule-making, is a positive development for the new generation of regulations that may follow the adoption of the bill.

75. We conclude that a participative and consultative RIA mechanism also brings in a certain level of consistency in the regulatory framework while avoiding the possibility of overlap of regulatory reach, over-regulation of entities and distortion of competitive forces. By making clear the expected benefit, quantitative or qualitative, the costs to be incurred, we expect that the regulators will be better able to justify the imposition of rules and expect stronger, and possibly even voluntary, compliance by the entities it governs.

76. Finally, the use of RIA is not merely semantics or play with words but forces a strong analytical framework for judging and introspecting before new regulations are introduced. SEBI and every regulator should incorporate RIA along with the current public consultation process into every proposed regulation. This will create the seemingly impossible duality of better regulation with less regulation at the same time.

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