Global banking regulators are facing a growing contradiction: financial risks are becoming increasingly interconnected just as cooperation among supervisors across countries is becoming more difficult. Erik Thedéen, chair of the Basel Committee on Banking Supervision, has warned that fragmentation in financial supervision could make it harder for regulators to identify and manage risks that cross national borders. The concern is not simply about differences in banking rules. It is about what happens when financial institutions can move activities across jurisdictions faster than regulators can coordinate their responses. Fragmented supervision can widen information gaps, increase opportunities for regulatory arbitrage and make it harder to determine where a financial vulnerability is accumulating before it spreads.

The problem becomes more complicated as financial activity extends beyond traditional banks into areas involving technology companies, non-bank financial institutions and digital infrastructure. At the same time, geopolitical tensions are making governments more focused on national priorities and reducing the willingness or ability of authorities to maintain common regulatory approaches. The result is a financial system in which risks can cross borders quickly while oversight remains largely organised along national lines.

The significance of Thedéen’s warning lies in that mismatch. International banking standards were strengthened after the global financial crisis precisely because regulators recognised that national oversight was insufficient when financial institutions operated across borders. The Basel III framework raised capital and liquidity requirements and sought to make banks more resilient to shocks. But international standards depend on domestic implementation, and countries retain considerable control over how rules are applied. When those rules begin to diverge, financial firms can have incentives to shift particular activities toward jurisdictions with less demanding requirements.

That does not mean every regulatory difference creates systemic danger, but it can make the financial system harder to monitor as a whole. A bank, investment fund or financial technology provider may appear relatively safe when examined individually while its connections with institutions in other countries create vulnerabilities that are not visible from one jurisdiction. The more interconnected the system becomes, the more important it is for supervisors to understand those connections. The weakening of cooperation therefore matters not because uniform regulation is an end in itself, but because fragmented oversight can make the transmission of financial shocks more difficult to see and manage.

Cross-Border Finance Creates Cross-Border Blind Spots

One of the clearest risks from regulatory fragmentation is the growth of information gaps. Financial instability rarely respects the boundaries used by regulators. A bank may have exposure to a particular market, while an investment fund or other financial institution in another jurisdiction holds a much larger position in the same assets. These entities can be connected through funding markets, derivatives, common investors or shared financial infrastructure. If supervisors do not exchange sufficient information, each authority can underestimate the importance of those connections. Regulatory arbitrage adds another dimension because financial companies can potentially move activities toward jurisdictions where requirements are less restrictive.

Basel standards were partly designed to reduce that incentive by establishing common principles, but those principles become less effective when implementation diverges significantly. The issue is therefore not that every country must adopt identical rules. It is that differences in regulation become more consequential when institutions operate across several markets and when a problem in one jurisdiction can rapidly affect another. Thedéen’s warning is ultimately about visibility: regulators need to know where risks are building before they become systemic, and fragmented supervision can make that task harder.

Technology is making that challenge more significant. Financial institutions increasingly depend on shared digital infrastructure, external technology providers and automated systems. Artificial intelligence can improve fraud detection, credit assessment and operational efficiency, but it can also create concentration risks when large numbers of institutions rely on similar systems or suppliers. A disruption affecting a critical technology provider could therefore spread across multiple financial institutions even if those institutions maintain strong internal controls. Cybersecurity creates a similar cross-border problem because attacks can exploit connections between banks, payment systems, cloud infrastructure and third-party providers.

These risks cannot always be addressed by traditional bank capital requirements because the vulnerability may sit outside the balance sheet of an individual bank. Supervisors consequently need to understand not only the condition of banks but also the networks of technology and financial dependencies around them. That makes international cooperation more important precisely when geopolitical tensions are making such cooperation harder. The irony is that the financial system is becoming more integrated through technology at the same time that the regulatory environment is becoming more fragmented through politics and national policy.

Geopolitical Tensions Are Complicating Financial Stability

The political dimension is particularly important because regulatory cooperation ultimately depends on governments allowing their supervisors to work together. Thedéen warned that geopolitical tensions are clouding the outlook and could affect coordination on issues ranging from artificial intelligence risks to responses to a future financial crisis. The concern is not hypothetical in the sense that financial regulation has already become a contested area of policy. The United States remains one of the largest jurisdictions yet to implement the final Basel III reforms in full, and American regulators withdrew an earlier proposal after industry opposition before publishing a revised draft in March.

Different implementation choices do not automatically make one system unsafe, but they demonstrate how the common international framework can become subject to domestic political and economic priorities. If major jurisdictions move in different directions, international banks must manage multiple regulatory environments while supervisors have to assess risks that may be distributed across those environments. That increases the importance of information-sharing mechanisms and supervisory coordination even when common rules become harder to achieve.

The deeper issue is that financial fragmentation can become self-reinforcing. If firms find that regulatory requirements differ substantially between markets, they have stronger incentives to structure activities around those differences. As activities move across borders, regulators may have less visibility into where risks are accumulating. Reduced visibility can then make authorities more cautious about sharing information or relying on foreign supervisors, further weakening cooperation. That does not mean a new global financial crisis is inevitable, and Thedéen’s warning does not establish that current fragmentation will produce one. The more defensible conclusion is that the cost of detecting and managing systemic risk can rise when international coordination weakens while financial connections multiply.

The post-crisis regulatory architecture was built around the idea that banks and markets could transmit shocks internationally; today’s technology-driven financial system has expanded those connections beyond traditional banking. The challenge for regulators is therefore not simply to preserve common rules but to preserve enough cooperation and information flow to understand how risks move across borders. As financial systems become more interconnected, the consequences of regulatory fragmentation become less confined to individual countries and more relevant to the stability of the global financial system itself.

(Adapted from MarketScreener.com)

Categories: Economy & Finance, Regulations & Legal, Strategy