The prudential apparatus has worked in the past on the presumption that all movements in asset prices were based on fundamentals. The burden of the proof was on those who thought that something was going wrong. And, of course, it is impossible to prove the existence of a bubble until it is too late. And, at least in the initial phase of a bubble, there is no lack of rational explanations for observed movements in asset prices. It may be useful, in a macroprudential perspective, to consider some rebalancing in the burden of the proof. Significant and lasting departures from past levels or trends in key asset prices, risk premia or credit aggregates should systematically trigger a macroprudential review, with the implicit assumption that a bubble may be occurring unless proved otherwise. This seems to me justified when looking at the current social costs of previous hesitation. This is also a rational course of action. Bubbles develop because investors have an incentive to ignore the "tail risk" that the bubble may burst. Where does this incentive come from? Bubbles are mostly financed by credit, which makes it possible for investors to shift most of the risk to lenders, while keeping most of the profits for themselves (especially when those profits are booked, and distributed, in real time). This asymmetry in incentives is extremely difficult to eliminate ex ante.
But in the meantime I thought it might be worth us raising our sights a little and having a look at some of the regulatory issues that lie on the other side of the bridge: strong and simple, leverage, MREL and mortgage floors. Strong and Simple I’ll start with strong and simple. Avid followers of my speeches – of which I am regularly assured there are at least three across the country, one of whom is Robin – might recall that in November last year I gave a speech titled ‘Strong and Simple’. Indeed, it turns out that Robin is such an avid reader of my speeches that he has themed this entire conference day as ‘Strong and Simple’! I’m not quite sure what to make of that but I took the hint about what he hoped I’d cover. Let me first remind you that we have already made a significant down-payment in this area. Credit union attendees here today will know that in 2019 we implemented a radical simplification of credit union capital requirements. This aimed to remove barriers to growth while delivering greater resilience for smaller credit unions. It was an example of how regulatory simplification can promote both our primary objective of safety and soundness, as well as our secondary competition objective. Having left the EU and acquired more regulatory flexibility, we have now turned our attention to a simpler prudential framework for the next layer up of our deposit-takers – small banks and building societies.