commonwealth of australia official committee hansardtelstra recently decided against raising retail...

COMMONWEALTH OF AUSTRALIA

Official Committee Hansard

SENATESELECT COMMITTEE ON SUPERANNUATION AND

FINANCIAL SERVICES

Reference: Prudential supervision, global financial services and superannuationguarantee charge

TUESDAY, 16 MAY 2000

SYDNEY

BY AUTHORITY OF THE SENATE

INTERNET

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SENATE

SELECT COMMITTEE ON SUPERANNUATION AND FINANCIAL SERVICES

Tuesday, 16 May 2000

Members: Senator Watson (Chair), Senator Sherry (Deputy Chair), Senators Allison, Chapman, Conroy,Hogg and Lightfoot

Senators in attendance: Senators Conroy, Hogg, Sherry and Watson

Terms of reference for the inquiry:For inquiry into and report on:

(a) prudential supervision and consumer protection for superannuation, banking and financial services;

(b) the opportunities and constraints for Australia to become a centre for the provision of global financial services;and

(c) enforcement of the Superannuation Guarantee Charge.

WITNESSES

de BROUWER, Professor Gordon John (Private capacity)........................................................................159

DUFFIELD, Mr Jeremy Geoffrey, Managing Director, Vanguard Investments Australia Ltd..............169

FARROW, Mr Kenton Geoffrey, Chief Executive, Australian Financial Markets Association..............134

GILLIGAN, Dr George Peter (Private capacity) .........................................................................................144

HOFVANDER, Mr Johan Bengt, Regional Manager, Asia-Pacific, Skandia Assurance andFinancial Services............................................................................................................................................181

HOSKING, Mr Leslie Victor, Chief Executive Officer, Australian Centre for Global Finance .............119

KENNEDY, Ms Rosemary Anne, National Manager, Interest Rate Markets, Australian StockExchange ..........................................................................................................................................................108

LAIDLAW, Mr Ross Anthony, Country Manager, Australia, Skandia Assurance and FinancialServices.............................................................................................................................................................181

MRAKOVCIC, Miss Maryanne, General Manager, Australian Centre for Global Finance ..................119

RAPPELL, Mr John Robert, Director, Research and Policy, Australian Financial MarketsAssociation.......................................................................................................................................................134

ROCHE, Mr Michael Anthony, Executive General Manager, Strategic Planning, Marketing andCorporate Relations, Australian Stock Exchange........................................................................................108

WEBSTER, Mr Robert James, Executive Director, International Banks and SecuritiesAssociation of Australia..................................................................................................................................198

Tuesday, 16 May 2000 SENATE—Select 107

SUPERANNUATION AND FINANCIAL SERVICES

Committee met at 8.36 a.m.

CHAIR—I declare open this public hearing of the Senate Select Committee onSuperannuation and Financial Services. This is the second public hearing which the committeeis holding to its main terms of reference. Today again we will be hearing witnesses who will beprimarily addressing the terms of reference (b) relating to the opportunities and constraints forAustralia to become a centre for the provision of global financial services.

As you know, all the witnesses who appear before our committee are protected byparliamentary privilege with respect to the evidence given to the committee. This means thatyou are given broad protection from action arising from what you may say and the Senate hasthe power to protect you from any action which disadvantages you on account of the evidencegiven before the committee. We do prefer to conduct our hearings in public. However, if thereare any matters that you wish to discuss with the committee in private—I would be surprised ifyou did—we will then consider your request. I would like to welcome all the participants attoday’s hearing.

108 SENATE—Select Tuesday, 16 May 2000


KENNEDY, Ms Rosemary Anne, National Manager, Interest Rate Markets, AustralianStock Exchange

ROCHE, Mr Michael Anthony, Executive General Manager, Strategic Planning,Marketing and Corporate Relations, Australian Stock Exchange

CHAIR—I welcome Ms Kennedy and Mr Roche from the Australian Stock Exchange.Thank you for the information that you have put before the committee—it is very useful—andwe invite you to make an opening statement.

Mr Roche—Mr Chairman, the Australian Stock Exchange appreciates the opportunity toparticipate in the Senate select committee hearings on these important terms of reference. In thisopening statement I would like to address some specific issues that probably go to both terms ofreference (a) and (b), although certainly with a global financial centre emphasis. I would like todevote the bulk of my opening remarks to the importance of developing in Australia a retaildebt market. It will become clear from what I have to say that this topic is relevant to both termsof reference (a) and (b). My remarks will introduce some of the relevant issues, but in MsKennedy you have one of Australia’s foremost experts on this topic and she will be pleased toanswer senators’ questions.

First of all, why is a retail debt market important? For Australia to be considered as a regionalfinancial centre, it is essential that there is a viable, transparent, retail debt market. All othermajor financial centres, such as the United States and Europe, even New Zealand, offercompanies the choice of whether to borrow in either the retail or wholesale market. Thesecountries have sophisticated and mature retail markets that complement their wholesale capitalmarkets. Indeed, many Australian corporations borrow regularly in overseas retail markets. Theinability to do so in Australia severely inhibits our standing in international capital markets.

Against the backdrop of Australia’s compulsory superannuation environment, retail investorscurrently have little choice, if they wish to invest in tradeable securities, other than to invest inequity based products. The bias towards equity based products is arguably cause for concern,particularly as the latest APRA superannuation figures as at the third quarter of 1999 show that,if investors place their money in a managed superannuation fund, they would on average havean asset allocation of 30 per cent in interest bearing securities, 59 per cent shares, 60 per centcash and five per cent property.

However, according to the same survey, the do-it-yourself investors have only seven per centin interest bearing securities, 44 per cent in shares, 31 per cent cash, 11 per cent other and sevenper cent in property. This shows a major disparity between the asset allocation of professionalinvestors and individual investors. In this context Australia’s superannuants can be significantlyexposed if the equity market has a severe downturn. The lack of a diversification of Australianinvestors compares unfavourably with 1999 United States Federal Reserve statistics showingretail investors have 31 per cent of their assets invested in interest bearing securities. The mainreason for this disparity in Australia is the lack of simple, safe, liquid and transparent fixedinterest investments available to retail investors. While ASX has developed a transparent, low



cost retail interest rate market structure, further work from authorities is required. Thegovernment should be aware of the importance of this development and be prepared to look atways of encouraging its growth. In particular there are two main factors that continue to inhibitthe supply of securities to retail investors. They are the prospectus requirements for debt issuersand settlement arrangements relating to Commonwealth government securities.

One of the main impediments to the development of an active retail interest rate market inAustralia has been the impact of the prospectus provisions contained in the Corporations Law.There has been a concern on the part of most issuers that the requirements for a prospectusrelating to debt securities are too onerous with the effect that there are substantial costs involvedin raising retail debt capital. ASX has actively pursued the need for shortened prospectuses fordebt issuers for the past 12 months. Federal authorities have indicated that they believe theCLERP 4 changes which took effect on 13 March 2000 provide sufficient flexibility toaccommodate the special needs of debt security issuers. There is still, however, major concernon the part of many issuers and advisers that while the new legislation is flexible it does notprovide sufficient guidance as to what should be included in their prospectuses. For example,Telstra recently decided against raising retail funds in Australia but opted instead to target retailmarkets offshore. ASX acknowledges that the new legislation creates flexibility for borrowersregarding what type of prospectus they should produce. However, some in the industry argue itis this very flexibility that creates uncertainty. They point out that other markets, where there aredeep and flourishing retail markets, have clear, prescriptive prospectus provisions. The Ministerfor Financial Services has ruled out further legislative change for the time being. However,ASX believes that a similar result could be achieved if regulatory policy makers issued asufficiently authoritative policy statement. This would provide considerable comfort to issuersand their legal advisers who currently interpret the legislation in a very conservative manner.

Commonwealth government securities are the premier risk-free fixed interest security and thelogical first interest rate investment for retail investors. ASX receives regular requests frominvestors and brokers to provide a market for these securities. We believe it is essential thatinvestors are able to buy and sell their securities just as easily as they can with shares. However,while Commonwealth securities are quoted on ASX, they are unable to be settled via our world-class CHESS electronic settlement system as there is no provision in the CommonwealthInscribed Stock Act 1911 for electronic settlement of Commonwealth securities. Consequentlythere is currently no readily accessible market for such securities and existing settlement iscumbersome. Investors must either purchase Commonwealth securities from the Reserve Bankdirectly or request one of the specialist brokers to hold those securities on their behalf. Retailinvestors have no way of knowing what the value of the security is at market and the securitiesare not registered in the client’s name. Industry has sought changes to the inscribed stock act forat least the past eight years to enable legal title and Commonwealth securities to be settledelectronically. Treasury has been indicating for the past 18 months that they are in the process ofamending the Inscribed Stock Act. ASX has been frustrated by the time it is taking to make thenecessary changes. However, we are encouraged by recent comments made to us by theMinister for Financial Services to the effect that the necessary changes to the act will beeffected in early 2001. By facilitating access to Commonwealth government securities, thefederal government will both enable superannuants to diversify into a risk free product andprovide a boost to the retail corporate bond market.



In summary, even though ASX has provided a cost-effective market structure, if prospectusprovisions do not encourage retail debt issues, vis-a-vis offshore, and if investors cannot getaccess to Commonwealth securities, development of this market will be severely hindered.From ASX’s viewpoint, it would be the one missing link for Australia to become a centre forthe provision of financial services and it will not give retail investors the opportunity todiversify their savings.

For the remainder of my opening statement, I would like to share with the committee ASX’sthinking on how it can ensure continuing public confidence in its supervision of the Australianequities market. First, I need to clarify ASX’s supervisory role. The Corporations Law puts theonus on exchanges such as ASX to manage the integrity of the markets we conduct. In otherwords, ASX is required to maintain a fair and orderly market. ASX’s commitment to marketintegrity goes beyond legislative requirements. We place a very high value on our brand as aconductor of high equity markets. To achieve a fair and orderly market, ASX enters intocommercial arrangements with market participants, primarily the brokers and listed companies.Those participants enter a commercial agreement with ASX to abide by our business and listingrules. While the distinction is not often understood, ASX’s role is as a supervisor of ourmarkets. We are not the market regulator. The Corporations Law gives expression to ASX’ssupervisory role by providing legislative backing to the rules, including via sanctions forenforcement. The minister, on the advice of ASIC and Treasury, has the power to disallow thoserules. I need to emphasise that neither the Corporations Law as it exists today nor the CLERP 6proposal sets down in black-letter law how exchanges should ensure a fair and orderly market.

ASX has always maintained strong Chinese walls around our market surveillance,investigations and enforcement functions. Few, if any, questions have been raised about anyconflict in our role as the supervisor of brokers. That conflict is with ASX’s position as a for-profit company. Parliament addressed such perceived conflicts of interest when amending theCorporations Law to facilitate ASX’s demutualisation back in 1998. Parliament now requiresASX to report annually to the minister on the conduct of our supervisory functions. If theminister has a concern that ASX’s standard of supervision is inadequate in any respect, he orshe can require a special report. More recently, questions have been raised about a possibleconflict of interest in our supervision of certain listed companies where ASX’s commercialinterests may also be involved. In the two such cases which have arisen in the ASX’s 19 monthsas a listed company, ASX initiated arrangements whereby enforcement of the listing rules wascarried out in consultation with ASIC. ASX’s own listing is of course handled by trained ASICofficers.

ASX has decided that to promote continued public confidence it is time that the presentarrangements were formalised. ASX has therefore been discussing some options with theminister, ASIC and Treasury. While the ASX board has yet to finalise its position, the principleASX has in mind is that a new ASX supervisory board or panel should be establishedcomprising a majority of independent members. That supervisory board would in future overseeASX’s market surveillance, investigations and enforcement activities but also watch over thesupervision of listed companies where ASX has a possible conflict of interest. The ASX boardwould, however, retain ultimate responsibility for the quality of ASX’s supervision activities. Itgoes without saying that ASX’s supervision activities will continue to be subject to review and



audit by the minister and by ASIC. That concludes our opening statement. We would be pleasedto answer any questions senators may have.

CHAIR—Ms Kennedy, do you wish to make a statement?

Ms Kennedy—No, thank you.

CHAIR—Do you consider that the CLERP reforms contain any constraints for thedevelopment of a global financial centre in Australia?

Mr Roche—The CLERP reforms are a very large package. Are you referring to the currentexposure legislation in CLERP 6?

CHAIR—Yes.

Mr Roche—We believe that is not a necessary outcome of the legislation even as it stands,although ASX did just yesterday put in a high level submission on about half a dozen key pointswhich we would like to see addressed and which will certainly improve the legislation, from ourviewpoint.

CHAIR—Can you share that with us?

Mr Roche—I can give you a flavour, Senator. In terms of a global financial centre, I guesswe do not see particular show-stoppers. We do see some perhaps unnecessary additionalreregulation in some of the legislation requiring, for example, a clearing house, which hasexisted for nearly a quarter of a century and whose rules have been subject to disallowance bythe minister throughout that period, now subject to a new licensing regime, rather than beinggrandfathered on the basis of its having operated to everyone’s satisfaction for the last quarter ofa century.

One area I would also draw attention to is the uncertainty we have about the level playingfield concept as between us and overseas market operators. On one reading of the exposurelegislation, it could be possible for overseas market operators seeking to provide services toAustralian investors, either here or more likely remotely—say, the Bermuda stock exchange—toactually have their market practices sanctioned by the Australian authorities as being sufficientfor retail investors without necessarily meeting the same standards that an Australian exchangehas to meet. So we do have some concerns about how that particular section is applied inpractice, and we will be seeking some clarification of that through our submission. Probably tothe horror of Treasury officials, we will also be providing them today with a detailedsubmission—unfortunately, dealing with the legislation line by line. In a recent speech, you mayremember that Senator Conroy said he was horrified our submission might be 80 pages. I ampleased to say it came in at 79.

Senator CONROY—I am sure they feel much better with that.

CHAIR—You have only covered some of the seven points.



Mr Roche—I am trying to relate them back to your question, Mr Chairman, about how theymight impact on global financial centres. For ASX there are sometimes issues that mightprovide some uncertainty in the way we operate, but we do not necessarily see them as showstoppers in the way we think about global financial centre issues. We need some clarification onthe meaning of derivatives. We need clarification on the extent to which we need licences foreach product that is traded on our market or for the market as a whole. We are a bit up in the airabout the definition of a clearing house facility. Some of the clearing house and settlementfacility definition sits in regulations we have not seen, so we are suggesting to Treasury howthat might be clarified in the black-letter law. Perhaps it would be helpful to the committee if wewere to provide you with at least the high level submission we are making to Treasury on theCLERP legislation. If you want the 79-page version as well, you are certainly very welcome.

CHAIR—Derivative trading is a matter that has been examined by this committee on anumber of occasions. The derivative reports issued by funds are very large and almostincomprehensible to the ordinary follow-up. It seems that the extent of derivatives allowed in aportfolio has gone from single-digit to double-digit figures and people have just accepted that.What is your view? I notice you indicate that you would like to see a tighter definition ofderivative trading.

Mr Roche—I would not necessarily say a tighter definition, just some more clarity. ASXoperates exchange traded derivatives markets, particularly for warrants and for exchange tradedequity options on individual shares and index options. We have ideas about how our derivativesofferings could be further expanded. The Sydney Futures Exchange offers fixed interest andequity futures to Australian and overseas investors. They are products which are appropriate toanyone’s portfolio to be used for hedging and risk management purposes.

Clearly, some people take positions in derivatives for speculative purposes. In terms of ourown supervision activities, we have a dedicated risk management unit that is applying world’sbest practice risk management techniques in relation to all the products traded on our markets toensure the capital adequacy of our market participants. Of course, more broadly, theresponsibility then falls to someone like APRA to ensure that capital adequacy standards aremaintained by banks and the others they supervise.

CHAIR—Have you conducted any studies that indicate that funds heavily into derivativeshave done very well when prices rise? And, in the latest fall on the stock market, how havethose funds that are heavily into derivatives performed?

Mr Roche—We have not conducted such studies.

CHAIR—It would be interesting to know that.

Mr Roche—We could dig out for you some of the academic evidence that has been producedover the years, which has tended to look at fund performance by those who make use ofderivatives, particularly in options. I will undertake to provide that to you.

CHAIR—You indicate that there should be more frequent reporting as a protection measure.How frequently do you think corporations should be reporting?



Mr Roche—Are you referring to Australian listed companies supervised by ASX?

CHAIR—Yes. This is in your submission to the House of Representatives.

Mr Roche—Under our continuous disclosure requirement, of course, a listed entity needs toreport any price sensitive matter to the market promptly. If a company has price sensitivematters every day, then that is as often as they should be reporting. Beyond that, we have arequirement in Australia for half-yearly reporting. Of course, in the US they go to quarterlyreporting. In the case of those companies that listed on our markets after 1 July, on the basis ofsome new rules that came into effect last year, we introduced quarterly cash flow reporting forcompanies that are best described as cash rich companies. That first round of quarterly reportswas received by ASX in only the last week, and you may have seen some financial press storiesabout interpreting those quarterly cash flow reports from those companies. They are thecompanies typically described as the dot coms.

CHAIR—Are there any questions?

Senator CONROY—I appreciate your statement that it is just a principle you have in mindat the moment so I appreciate that there will not be too many details you are either able to or ina position to tell us about. You mentioned it comprising a majority of independent members forthe supervisory board or panel that you are considering establishing. What is your definition ofindependent members?

Mr Roche—Certainly those who do not have, in recent times, an association with ASX orwith ASX participating organisations. We do have some particular names in mind. In fact, thesort of criterion that would apply to ensure independence starts to limit the pool of talent.

Senator CONROY—I actually thought that would be the problem: finding somebody whowould fit into an independent category.

Mr Roche—I do not have the precise criteria in front of me, but they go to those who can beclearly shown not to have a recent association with ASX or with an ASX participatingorganisation.

Senator CONROY—I was also interested in the announcements overseas and then yoursubsequent comments about alliances taking place between London and Bonn.

Mr Roche—With the Deutsche Boerse.

Senator CONROY—Where do you see that evolving in terms of Australia as a regionalfinancial centre? Do we just become an outpost? Can we maintain our identity? How do you seethat playing out, given these massive movements that are taking place?

Mr Roche—We certainly see the environment developing in Europe as a challenge. ASX hasalways regarded itself as being pretty well up to the mark in the way we apply technology, ourbusiness development skills and our supervisory qualities, but we certainly are very mindful ofour lack of scale. When the Australian equities market is only one to 1½ per cent of world



global capital, as measured by the Morgan Stanley Capital Index, then one of the other drivingforces for ASX going forward is the success of Australia’s financial centre ambitions. It reallyneeds to garner more scale, and one way of doing that is to look at a link-up with other markets.We have talked publicly about our ambitions of doing so in the first instance with the SingaporeExchange. We have also been looking at how we can effect some linkages with the Nasdaqmarket in North America. Nasdaq’s own priorities, such as introducing decimalisation, turningthemselves into a for-profit company plus their own forays into Europe and Japan, have made itdifficult to achieve what we would like to achieve directly with them. So we are looking atsome other opportunities to link our market with the North American markets via other agents.

In terms of what is happening in Europe, I think you will find that it is really largely drivenby the unhappiness of many of the market participants, intermediaries, the investment banks andbroker dealers of having to deal with so many exchanges in Europe, some of them very small.So we have seen the recent linking up of Paris with Brussels and Amsterdam. In that case, youhave a large and successful Paris market picking up perhaps a couple of struggling markets. Inthe case of the Deutsche Boerse linkage with London, that is a major challenge to the NorthAmerican exchanges. It is a very large entity; it is an entity that ASX cannot ignore. Mymanaging director has indicated recently that he will be visiting Europe in early July and will bewanting to resume discussions that we have been having over the last year or so with thatexchange and, more recently, also with the London Exchange to see what sorts of relationshipsASX can effect with that new merged entity—that is assuming, of course, that the merged entitygoes ahead. It is not a done deal, particularly if you read the UK financial press. There is a lot ofunhappiness on the part of the UK market participants about the turn of events.

Senator CONROY—How do you make the call between trying to form an alternativecompeting bloc and trying to form an alliance with these entities?

Mr Roche—Generally, ASX’s position is one of not seeking to form exclusive arrangements.It remains to be seen whether that is a viable position for us, but you have hit the nail on thehead. If, for example, as is starting to take shape, there was one bloc that the Nasdaq market wasinvolved with—say, London and the Deutsche Boerse—and then on the other hand you had,perhaps, New York trying to put together its own set of best friends, if ASX linked up with oneat the expense of the other, that would leave a question mark about our ability to do businesswith important parts of the rest of the world’s capital markets. That is not to say we will notseek to effect such link-ups, but we will have to be very careful in the way we handle ourprinciple of non-exclusivity.

Senator CONROY—I think one of your biggest challenges, particularly if you are looking atthe Asian markets, is negotiation. We talk about New Zealand but there is a lot of commonalitythere. We rightly have the reputation of having a very fair and good market—a lot of that is dueto the ASX’s listing rules and its policing of those rules and a common understanding aboutwhat we require. It would be fair to say that some of the Asian markets probably do not sharesome of those values that we hold and that must be a challenge in terms of negotiating. How dowe get our listing rules adopted by Singapore, Thailand or any of the other countries as part ofyour negotiations? How do we maintain the strong position that we have when you desperatelyneed to get into an alliance, perhaps, with some of those other countries that have notnecessarily had such sound markets as us? It is a long and convoluted question.



Mr Roche—It is a very pertinent question and it is one that we are very mindful of. Ourposition of market integrity can be seen as, in a narrow sense, a competitive advantage in ourregion. During the Asian financial crisis of the last few years Australia was seen as somethingof a safe haven because of the integrity of markets that we were able to offer. But, at the sametime, some investors just saw the Asian region and swept Australia up in it, and we were tarredwith the same brush. Our approach tends to be one of erring on the side of promoting improvedpractice in all of the markets in our region. We are a very active participant in the local regionalgrouping of stock exchanges, EAOSEF—the East Asian Oceania Stock Exchange Federation—which met recently for its annual meeting in Wellington, and ASX has led a task force there onpromoting best practice in cross-border trading. We have participated on a number of bilateralconsultancies in conjunction with aid bodies and the Asian Development Bank to promote bestpractice in investor protection in Thailand or listing rules in the Philippines, and the like. So wetend to err on the side of trying to do what we can through that multilateral grouping andbilaterally to promote best practice across all those exchanges. We are reasonably comfortablewith the quality of markets offered in countries like Singapore and Hong Kong.

Senator CONROY—There are always compromises at the end of the day. It would beunrealistic to expect you to go to Singapore, Hong Kong or some of the others and say ‘Right,here is our bottom line. This is what we are used to doing and this is the way we do business; itis now the way you are going to do business.’ I cannot see an approach like that succeeding.How do we as the parliament have confidence that you are able to maintain the integrity we areused to—and we are proud of it and you have done such a good job in maintaining it—in thosenegotiations under the sort of pressure you are faced with? Where you have conglomeratesforming, you have to either, as I said, get into an alliance or get into a conglomerate yourself.

I have two questions. My first question is: how do we keep our integrity at such a high level?And then, more importantly, let us say you do form an alliance with Singapore or Hong Kongand the Australian parliament want to, for a variety of reasons, pass a law that increasesregulation in one area. How would that impact on an alliance situation? If your cross-borderswere not there and we imposed something on you, how would that then reflect on your newsituation?

Mr Roche—If you take the Singapore arrangements that we are still developing, the principlethat we believe will be the one that applies is that, for example, if an Australian investor througha market linkage in cross-border settlement arrangements is able to invest in Singapore stocksthey would, in fact, be trading into the liquidity pool provided by the Singapore exchange andwould be subject, therefore, to the Singapore standards of enforcement of their listing rules.Similarly, if a Singapore investor wants to buy Australian stocks they would be accessing theliquidity pool offered by the ASX, and we would continue to apply our rules to that situation.We are not seeking the Singapore authorities to change the way they do things, nor they us. Youraise an important point, therefore, that Australian investors accessing that market need to knowthe regulatory environment into which they are going—albeit that we are offering them a cross-border settlement facility that brings effectively the ownership of the security back to Australia,so when they get their CHESS statement at the end of the month they can see in Australiandollars what they own in the ASX list of stocks and what they own in Singapore exchange listedstocks—and all in Australian dollars. We certainly have no intention of lowering our standardsto meet the requirements of an alliance partner; nor has the situation arisen.



Senator CONROY—I will pick the hardest and most contentious issue. Insider tradingwould be something that some other stock markets probably would not take the same view onthat we perhaps take. There are challenges in terms of, say, an Australian looking at the newconglomerate that you have formed and thinking that it is all pretty much the same, but notreally understanding that it is done a little differently in some of the other countries that you arelinked up with.

Mr Roche—Again, it goes to the question of careful choice of markets and doing all we canto promote best practice in those markets.

Senator SHERRY—I note that in your opening remarks this morning you drew attention tothe disparity in the asset allocation of professional investors and individual investors. If theretail debt market develops, as you would hope, what do you think would be the change ininvestor behaviour, in both the do-it-yourself area and the managed superannuation fund area?

Ms Kennedy—I do not think it would change the managed superannuation fund to any majordegree. We would suggest that the difference between the seven per cent in the do-it-yourselfinvestors figures that we have here would move towards the 30 per cent. I am not suggestingthey might go to the 30 per cent but, for instance, to somewhere in the middle—sayapproximately 20 per cent.

Senator SHERRY—What about the response in the area of cash?

Ms Kennedy—Once again, if there was an easy, simple choice for people to invest some ofthat cash in a relatively riskless product, that would move from cash into interest bearingproducts.

Senator SHERRY—I am just going to make this point, and I would like your response. Youhave, in this submission, drawn a fairly simply line between managed superannuation funds anddo-it-yourself. It seems to me that is going to change, whatever happens with superannuationretail choice—which is a distinctly different issue from superannuation member choice, whichis looking at the latest figures at least being offered almost universally now in superannuationaccumulation funds. It is obviously not relevant in defined benefit funds. Will you be looking atthe behaviour of individuals within superannuation funds as to the sort of investment choicethey exercise? Have you done any work in that area yet?

Ms Kennedy—No, the only type of work that we have done is our normal yearly survey onthe behaviour of general retail investors, which once again highlighted the lack of fixed interestinvestments.

Senator SHERRY—I noticed that most superannuation funds now—certainly a significantmajority and it is only a very recent trend—are offering investment choice and there does notseem to be any information so far on what are the decisions being taken by individuals. I doknow the take-up is not terribly high in a lot of areas, particularly industry funds, or even a lotof corporate funds. It seems to me that the distinction is being blurred more and more. Do youhave any indications of what is likely to be the behaviour of individuals in taking up investmentchoice? I get a range of scenarios put to me. Do you have any experience, knowledge or



predictions about how you think that would impact on the ASX specifically or on marketsgenerally?

Ms Kennedy—I am not aware of anything.

Senator SHERRY—It is interesting because it is a major structural change tosuperannuation. Given that our national saving levels are in decline and superannuation isincreasing for obvious reasons with the SG, it is an interesting area to look at in terms of theimpact on markets. Do you have any comments to make on the level of saving? You do noteAustralia’s compulsory superannuation environment. There is a fairly regular debate aboutprivate savings and superannuation which is for retirement savings. Do you have any commentto make about those issues?

Ms Kennedy—I do not. That is not really in my particular realm. Michael might havesomething. I suppose I am just repeating myself here; we would like to be able to offer choicefor those savings rather than perhaps making a comment on the level of the savings. I feel thatthe level of the savings is quite likely to increase if there were a choice of relatively risk-freeinvestment for those savings.

Senator SHERRY—But do you think that is true? I just want to challenge that. Privatesavings are going down in Australia. All the figures show that quite consistently over a longperiod of time. Super we know is going up because of the superannuation guarantee. Do youreally think that the level of private savings, in that type of product anyway, will be stimulatedas a result of products? I am not going to get into the debate about super choice and thelegislative prescription.

Ms Kennedy—No, there are obviously many factors that determine the level of savings.Perhaps a good example though is Japan, whose level of savings is so high and a largeproportion of whose investment is in those types of products. I do not know whether that is thereason; obviously there are many factors. I take your point.

Senator SHERRY—Their level of private savings is extraordinarily high but, if you look attheir liabilities on the ageing population side of the legislation sheet, they face a catastrophic setof liabilities.

Ms Kennedy—Correct.

Senator SHERRY—How they work that through is another issue. Do you have anycomment to make, Mr Roche, about the issues we have been discussing?

Mr Roche—From an economic viewpoint, there is still debate about the appropriate way ofmeasuring private savings. I also draw your attention to some of the comments by Treasuryabout the impact, for example, of capital gains and the measurement of private saving being, infact, a residual measure. A statistician does not go out and measure private savings; a statisticiangoes out and measures income and consumption, and savings is what is left over. When youhave consumption that is boosted by people’s unrealised capital gains but those gains are notmeasured for the purposes of saving, you may be getting a distorted picture of what is actually



happening out there in the economy. It is an area the ASX is proposing to commission its ownresearch on to better understand that. We would like to do that in conjunction with Treasury.

Senator CONROY—Would it almost be better to call it something like fixed savings andfloating savings to try and capture that? I have plucked that out of the air, but that is the sort ofdifficulty in that argument about national savings falling. I keep wondering where it has gone.You cannot drive four BMWs or Ferraris around. It is going somewhere. It is not directly linkedto consumption, so how do you capture that in terms of the statistical analysis?

Senator SHERRY—We would be interested in seeing that research when you are able tomake it available. It would be very interesting.

Senator CONROY—I have one other question. Going back to my question in terms of whenyou bring different exchanges together if you were to try and form that alliance, would you betrying to seek a common set of listing rules on the same exchange? How would you do it? Ifyou did not have a common set of listing rules, surely you would be stuck with arbitragebetween them as they moved around. An Australian company on our exchange now is stuck byyour listing rules, but if you form an alliance it could go, ‘Now I am going over to Singapore orHong Kong and be listed there as part of that with different listing rules.’ How would you workyour way through that issue?

Mr Roche—There are many models under which exchanges could work more closelytogether. If you take the example of what is happening in Europe, in the case of the Paris-Brussels-Amsterdam merger, what they have in fact retained are three separate primary markets.They can choose where to undertake a capital raising and be the local entity and then a mergedsecondary market. So clearly the rules that apply to secondary market trading within that blochave to be common. Europe is working towards harmonisation of those sorts of rules. That isnot to say there cannot be distinct differences, perhaps underpinned by the regulations in each ofthose countries, that apply to who gets listed. In the case of ASX, the sort of model that we havebeen pursuing is one where we seek to facilitate the access of Australian investors to the pool ofliquidity in another market and vice versa. In that case my previous answer applies, that whatwe are taking Australian investors to is a jurisdiction in which they have to operate with therules of that local market. It is not a necessary outcome of a closer relationship with anothermarket that in fact your own rules have to be modified. That said, the Australian authorities aresomewhat more relaxed about their jurisdiction in terms of Australian investors going offshore.They do that now through any broker. However, the reverse does not apply. The USSEC doesset up more impediments for a US investor coming into our markets, and that is somethingunder discussion between ASIC and the SEC.

CHAIR—Mr Roche, there are quite of number of questions that we would have liked to haveasked you and Ms Kennedy. We were wondering whether you would not mind taking somequestions on notice at a later date. The issues revolve around hedge funds, product leverage,prospectuses and those sorts of matters.

Mr Roche—I am happy to do so.



[9.25 a.m.]

HOSKING, Mr Leslie Victor, Chief Executive Officer, Australian Centre for GlobalFinance

MRAKOVCIC, Miss Maryanne, General Manager, Australian Centre for Global Finance

CHAIR—I welcome Mr Hosking and Ms Mrakovcic to our hearings today. We appreciatethe fact that you briefed us earlier. We invite you to make a brief opening statement. After thatthe committee will have some questions.

Mr Hosking—I have a written opening statement here which I am happy to table instead ofgoing through it again if that be your wish; otherwise, I am happy to repeat it.

Senator SHERRY—That is fine as long as we can get a copy of it.

Mr Hosking—I have a copy right here.

CHAIR—Perhaps you would like to talk to it very briefly and highlight the features that youhave brought out in your statement.

Mr Hosking—I think the nub of the issue in the opening statement is that, in this technologyera, there are substantial changes occurring in the way financial services are offered and in theway instruments are traded. We are of the view that technology will eliminate borders and thatthe domestic size and liquidity of our market will be less relevant as technology facilitates sizeand liquidity across borders. That means the geographical distance will be less of an issue forAustralia and create opportunities that we have not had before. Our analysis has shown that, inthe future financial services centres, the environment which will be conducive to growth of theactivity in that centre will revolve around the physical infrastructure that is associated withtelecommunications, the availability of telecommunications and information technology, thesupply of skilled labour in the financial centre and regulatory and tax structures that areconducive to the operation of financial services and financial instruments. We have highlightedin the statement that Australia has a number of advantages now on offer as a global financialcentre ranging from our economic performance and the reforms initiated by the governmentwith regard to Wallis and Ralph through to the availability of a skilled labour force, a stronglegal system, political stability and so on. They are all outlined in the statement.

The centre has focused on three areas which it believes will be critical for the growth of ourcapital markets and for our financial centre activity. One is the capital markets themselves andbeing sure that we are responsive to what will be a changing landscape with regard to regulationand infrastructure. As I have noted before, it is very critical that we have a highly skilled workforce to service a financial services centre and that we therefore have a strong focus oneducation, training, research, delivering a highly skilled, innovative and cost-competitive workforce. Finally, we are investigating areas in telecommunications and IT to ensure that we havean infrastructure which can service the financial services centre.



We believe the financial services centre of the future focuses more on people, innovation andtechnology than perhaps on the traditional, old financial services centre, which was aboutclustering physical exchanges and price discovery entities around trading ports that used toprice the old-fashioned commodities and goods. The centre’s objective is to highlight thebenefits that Australia offers in what we see as the new financial centres of the 21st century.

CHAIR—In this changing the landscape, one or two of the submissions have suggested thatperhaps some of our regulatory protocols are not being moved fast enough to meet these newchanges. Would you like to make a comment?

Mr Hosking—I would like to contradict some of those observations to the degree thatCLERP 6, and the changes that have been introduced through CLERP, and the broad changesthrough Wallis have been acknowledged by a number of overseas global participants as beingquite technologically sympathetic in the sense that we have created an environment where abroker or an investment bank can operate and cross-sell across products, such as insurance,equity products, fixed interest products, banking and so on, within one single licence and withina recognition that the activity can be done either in what we call the traditional bricks approachor in the new approach of clicks—in other words, the web. Certainly, Australia is acknowledgedto have a regulatory infrastructure that is ahead of, say, the United States and many jurisdictionsin Europe, and more particularly in Asia.

CHAIR—One of the areas where that criticism has focused is in the issuing of prospectuses.CLERP 6 does provide for a simplified perspective. It gives a great degree of flexibility butdon’t you think there does need to be some direction in the form of a protocol, a statement or aregulation to indicate the sort of information that should be provided within that degree offlexibility, because the concept of flexibility itself has created its own uncertainties?

Mr Hosking—Yes. I agree that perhaps guidelines need to be quite clear as to how thatsystem would work and what are the expectations of the regulators.

CHAIR—Yes. From your point of view, has Australia tried to influence in any way theregulation of hedge funds, given the fact that studies have indicated they did have some role inthe financial meltdown in Asia?

Mr Hosking—I am not aware of any official approaches or dealings on the regulation ofhedge funds. I am aware through the media that the Reserve Bank has been involved indiscussions on regulation and activities in hedge funds, but I am not aware of anything official.

CHAIR—When these operators come into Australia, what controls do you exercise overthem? They do have extensive powers of leverage, of derivative buyback arrangements andthose sorts of things.

Mr Hosking—The centre has no power over their activity or knowledge of their activity. Inmy previous occupation as chief executive of the Sydney Futures Exchange, hedge funds weretreated in a manner similar to that of all position takers in our markets in the sense that theywere subject to reportable position levels. If they exceeded those levels, there were certaininquiries and investigations undertaken as to whether those positions related to a true hedge



against the physical underlying product. There are rules within the exchanges that ensure thatpositions that are in excess of what would seem to be desirable can be reduced. I am awarethrough my previous job that that is the process as far as the exchange traded markets areconcerned. I am not as clear as to what processes are involved between, say, the Reserve Bankand banks or other institutional participants as to whether there are any reporting lines for whatare called over-the-counter transactions.

CHAIR—As the dollar continues to fall and interest rates rise to meet pressures to containinflation in the United States—

Senator SHERRY—And the GST.

CHAIR—the question of sovereignty raises a political question. Are we becoming so globalthat we are losing our sovereignty as a nation? Would you like to comment on that, because Ithink, as politicians, this is an issue that we increasingly are going to be faced with in comingmonths.

Mr Hosking—I would like to respond to that in this manner: it is important in theglobalisation of the financial markets that our domestic economy does become integrated intothe global economy so that the liquidity of our domestic market becomes part of the liquidity ofthe global market by that integration. In doing so, the practices within our domestic financialmarkets become standardised with the global markets that are generated out of the United Statesand Europe. In that way there is a protection mechanism against hedge funds and otheroperators isolating our economy and our marketplace and putting pressure on our currency or onour interest rates. The best defence against undesirable activity such as that is deep liquidmarkets which are arbitrageable and integrated with the global economy so that you do have themaximum number of counterparty participants able to take an offsetting position with thepressure from the hedge funds.

CHAIR—But hedge funds are not the only group that move money to find higher interestrates around the world. The easier it is to move the money, the more vulnerable we reallybecome, don’t we?

Mr Hosking—If we were isolated, yes, but my previous comments related to the fact that, aslong as there is some synergy between the domestic economy and the international economy,there is less ability for weights of money to isolate our economy and to move it in a counterdirection to the general global economy.

Senator CONROY—There are those who would argue that at the moment the governmenthas signed an agreement with the Reserve Bank of Australia to be independent and the onlything we are independent of is the Australian government and not of Greenspan. In actual fact itis Greenspan that is calling the shots on Australian interest rates at the moment. There is awhole sovereignty question. The Reserve Bank of Australia has been criticised recently bypeople outside of Sydney saying, ‘You are trying to slow down an Australian economy that isbooming in Sydney and nowhere else.’ Do you have any view on that?



Mr Hosking—I cannot comment, as you know, Senator, directly on government policy or theReserve Bank’s independence. I can only say—and, again, I would perhaps prefer to say it frommy previous experience as chief executive of the Futures Exchange—that most definitely thereis a relationship between the Australian interest rate market and the US interest rate market, andthat relationship is simply described by me as capital flowing in and out of the countryaccording to whether rates are attractive here versus rates attractive in the United States. Thatvery fungible, transportable currency has been in existence for some decades now. On occasion,when there is a view taken by those people in control of those funds that Australia is a lessattractive place than other places for investment of those funds, then they move out of thecountry and place different pressures on the domestic economy which have to be handled by theReserve Bank.

Senator SHERRY—There is just one point I wanted you to comment on flowing on fromSenator Watson’s and Senator Conroy’s comments. I accept most of what you say but it is a lottougher for Australia, given our current account and savings levels. All those issues impact. Iwas in New York earlier this year and there were a number of comments about Australia’scurrent account deficit and relatively low national savings. The United States might have a highcurrent account as well but they have a lot bigger economy and a lot more clout in the worldthan a medium sized economy like Australia. Would you care to comment?

Mr Hosking—Having had an active 30-year experience in the financial markets, I havenoticed that quite often people will isolate one factor in a country’s economy and use that as thereason behind the view that they are taking at the time. I guess that might be similar to the typesof comments that you have received.

Senator CONROY—I am sure you saw the article headed ‘Why our best companies areleaving Australia’ in the Financial Review recently.

Mr Hosking—Yes, I did.

Senator CONROY—I want to try to put it in perspective. People in Benalla would saythat—I am raising Benalla simply to put it in context—too much power and too much decisionmaking was removed from them and it is now just in Melbourne. I know you are very consciousof the fact that there are many people in Melbourne who think that too much influence, powerand decision making is moved to Sydney. I am not being pejorative, but I will read a couple ofquotes from company executives. The Financial Review article, regarding Lend Lease, said:

Without its most important eyes and ears on the ground in the Northern Hemisphere, the company realised it wouldmiss out.

Mr Robert Tsenin of Lend Lease, who recently moved overseas, said in the article:There is a real benefit in being based overseas. You get a much better feel for the markets and opportunities. You get a

smell for what is happening.

How can we ever defeat the smell? How can we ever position ourselves to be competitive whenpeople are working on the basis of a smell? Mr Morris from Computershare said:

The world securities industry is run out of New York ... You have to live in the US or you miss out on deals.



Some of the deals we are doing in the United States now could not have been done if I had remained in Australia.

Is it realistic for us to be able to hold people and organisations in Australia when you have gotto be near the smell? As you know, when we were in San Francisco we had dinner with theLook Smart leadership, and I have another friend who is about to, at the end of this year, floathis company and move to London for these exact same reasons: you have got to be over there;you have to have your eyes and ears on the ground; you have got to be right there. I see justfrom the movement from Benalla to Melbourne and from Melbourne to Sydney that it will notbe long before Sydney works out that, as is already happening, you have got to be in New Yorkor London.

Mr Hosking—I think you have struck at the heart of the issue for global financial markets ofthe future, and that is: over time will the global financial markets, or decisions being made onthose markets, be controlled and operated from the United States alone, not even from Europeand Asia? With technology, what is to stop Manhattan Island in the United States fromoperating 24 hours a day and controlling the capital flows of the global marketplace? Thecounter to that argument is that, while the United States economy is the flavour of the month orflavour of the decade at the moment, there is a strong view that the world operates under threeregions: North America, Asia and Europe. There are many features about transactions infinancial services which require on the ground knowledge that cannot be gained in the UnitedStates, such as the understanding of cultures and economies as they emerge in China, India andother places, and in Eastern Europe, as far as the European time zone is concerned.

So whilst there are some decisions that are currently being made in North America, andwhilst there is the necessity for people like Chris Morris of Computershare to be in New Yorknow to expand his business, in a few years time it might be equally necessary for Chris Morristo be in Bangalore or in Poland to expand his business. The objective of the financial centre isto ensure that Australian financial services become a gateway to the Asia-Pacific region and thatwe create an environment whereby the decision makers in North America and Europe useAustralia as a gateway to those three billion people and the economy behind those three billionpeople.

There are every good reasons why that gateway and the practical application of meeting,greeting and talking to people can be used in that way. I personally subscribe to the fact thatthere will always be three time zones and that Australia is perfectly positioned between the twoother time zones to be the gateway. Whilst America holds the balance of power as far ascreativity and decision making is now concerned, that may shift. We have to continue to have anenvironment which is prepared when that shift occurs.

Senator CONROY—The challenge for us, as Senator Watson has indicated, is managing tosurvive as politicians while those sovereignty questions get greater and greater. The people ofBenalla are pretty angry about what they perceive as a loss of their own sovereignty. I think theactual cycle is getting shorter. People in Benalla have probably spent 20 years working out thatthey have lost their sovereignty and people in Melbourne are starting to think they have. It isjust that that cycle seems to be getting shorter.



Mr Hosking—Can I answer the issue in another way—and I think as a centre we havehighlighted this in our business plan. In North America there was a concern a decade ago thatWall Street was the balance of power in the United States—that everything occurred in WallStreet and that Wall Street was the old money and where things happened. The technology agehas altered that irreversibly. As you and I saw in Silicone Valley, there is a financial marketplacethere which cannot be replicated in New York. When we went to Boston we saw another fundsmanagement marketplace that is not replicated in New York. So within the United States itself,there is a new diversification of financial services occurring because of technology. The choiceof headquarter location is now being based on environment and skilled people. That is why theymoved to San Francisco and Boston.

The same opportunity lies within Australia. The financial services of Australia are no longerSydney central. Perhaps because the Australian Stock Exchange, the Sydney Futures Exchangeand the Reserve Bank are located in Sydney people have the perception that our financialmarkets are operated from Sydney. With technology that is definitely not the case. The fundsmanagement industry of Australia is centred in Melbourne. There are plenty of call centres nowblossoming everywhere in Australia from Brisbane to Adelaide to other places.

Senator CONROY—Tasmania.

Mr Hosking—Even Tasmania. You may have noted that the financial centres that areemerging in the United States are located very close to the universities of the United States. Imake the point that Australia, with its excellent university infrastructure, which can beimproved upon, will provide the same opportunity. I see IT development occurring aroundNewcastle, Melbourne, universities in Victoria and other places as part of this new financialcentre environment—it is Australia, not just Sydney. From there, the Australian system, whichcan be exported into Asia, can be the gateway that I am talking about for financial markets inAustralia.

Senator CONROY—Are we trapped in a cultural cringe when somebody as significant asMr Tsenin says you get a smell for what is happening? Is it a cultural cringe that you think youhave got to be over there in case you miss out?

Mr Hosking—I do not know enough about this gentleman’s business, but perhaps in his case.

Senator CONROY—Lend Lease.

Mr Hosking—Perhaps in Lend Lease’s case right now, they have to be in New York becausein their business that is where the decision maker is located. But that is not the case foreverybody in financial services any more. As you know, when we were in North America,Telstra opened its headquarters with a party on Alcatraz.

Senator CONROY—Alcatraz, yes, but we missed it.

Mr Hosking—His case may be different. I do not believe it is a cultural cringe. At themoment, there is a necessity for some people to be where the action is but that action is not allgoing to be remaining in North America, as I have just explained.



CHAIR—In response to Senator Conroy you said you felt that much more could be done bygovernment to improve university infrastructure because in the United States a lot of the newdevelopments have come around centres associated with universities. How can we, as acommittee, promote that concept?

Mr Hosking—The centre’s business plan has a very strong focus on education and skillstraining. We believe it is not just the universities, frankly; that there needs to be an attentionshown at high school level through to the universities and then through to ensuring that theproducts of our universities take their skills into our work force.

CHAIR—Yes, but essentially what can government do to try to assist in that transition?

Mr Hosking—We have not finalised our thoughts on specifics related to government. In thefirst step it is an awareness that, as far as financial services are concerned, innovation and skillare central to the growth of financial services. Any policy matters that are addressed as far asgovernment and the education, research and training issues are concerned, should be consciousthat we should be trying to retain an innovative, skilled work force within Australia.

Senator SHERRY—Following on from Senator Conroy and Senator Watson’s questions andresponses, I do not like this comment about smells. I think we can find a more usefuldescription of attractions.

Senator CONROY—Animal spirits—an old-fashioned one.

Senator SHERRY—Maybe we can just settle on money—that smells. We have had someanecdotal material—it is largely anecdotal, the sort of area that Senator Conroy was referringto—but do you track companies that are leaving Australia and companies that come to Australiaand their reasons for doing so? It seemed to be up and front centre to the sorts of activities thatyou would be involved in.

Mr Hosking—Yes, we are trying to track financial services operations that are coming toAustralia or moving from Australia to offshore locations. Companies as a whole, no, but wherethey are related to financial services, we are trying to monitor the inflow and outflows.

Senator SHERRY—Do you have any material that you can give us?

Mr Hosking—We will attempt to pass that through to you. We do have some information.Some of it has been gleaned merely from the media where there has been a company that hassaid they are uprooting their six foreign exchange dealers and moving somewhere else, back toNorth America.

Senator SHERRY—Much of what we get in the media.

Senator CONROY—John Hewson had a good list. I do not know who supplied him withthat.



Senator SHERRY—Much of what we see in the media often focuses on the emotive—response driven and smell driven in the case of that article. It is nice to see a fairly logical,concise, well researched overview. I do not want to be too harsh on the media, but often theyrespond to the glamour story of the time—‘Horror, someone is going overseas’. It is a two-waystreet. People come in as well as go away.

Mr Hosking—Could I generalise in this sense, that certain sectors of the financial servicesindustry are contracting and concentrating into one or two operations such as foreign exchangedealing and certain levels of principal trading and equity markets. If anything, outflows ofactivity from Australia are centred on Treasury dealing desks, foreign exchange desks and thoseareas that can perhaps be operated from one location. Because there is much more currencyactivity in other currencies at another location, they include the Aussie dollar in that location.

On the reverse, where a financial services provider is seeking a skilled work force, a betterenvironment and a low cost and efficient location, then there is an inflow from the moreexpensive places such as Singapore and Hong Kong to Australia. We are trying to monitor thosegeneral flows to try to keep on top of the trends. There is no way that the centre is seeking toreverse what is a global trend by the megabanks of the world to centralise their foreignexchange dealings. What we are trying to tap into is their move to relocate their back office inother areas to Australia.

CHAIR—Yesterday ISFA saw their principal role as trying to foster Australian companies tobe part of the globalisation. Globalisation for them essentially meant seeking opportunities forAustralian companies to trade abroad. Should this be a two-way street? Although they say thereis plenty of competition, don’t we really need some of that foreign money to be able to useAustralia as a springboard, say, into Asia? Could you comment on that?

Mr Hosking—Did you say ISFA?

CHAIR—Yes.

Mr Hosking—Yes, it is a two-way street. I see it as an export of our skills and our reformsand an import of the capital activity that can occur in Australia. As for some of the centre’sinitiatives that we are looking at, we think there is a very good opportunity for Australia toexport our pension reforms. There has been a similar activity out of Chile, which is a similarregime to ours. Exporting our skills and our reforms to make a standardisation across whereverthose reforms are adopted will allow us to export the people and services to that country andalso attract the funds from those countries back to the central location of Australia. I think weare in line with the philosophies of ISFA in the fact that, again, we would like to see Australia asa gateway to the Asia-Pacific marketplace. That gateway can be used by exporting our skills,services and reforms and by importing to a central location the capital of those countries, to betransacted and managed in the environment that we have created in Australia.

Senator HOGG—How do you see that happening when we are not seen as being part ofAsia? That is a crucial issue in the whole thing.



Mr Hosking—As far as financial services are concerned, Australia is most definitely seen aspart of the Asian financial marketplace. Quite a number of Australian executives are working inthe Asian marketplace and are already part of the skills assistance that we are providing in thosemarketplaces. If we are not part of the Asian marketplace, then we are part of the globalmarketplace which Asia is going to become part of.

Senator HOGG—It is just that I have encountered, in other inquiries that I have beeninvolved in, this view that we are not part of Asia and that they want to keep us remote fromthemselves. That is not necessarily something of our choosing. Yet it seems to me that fromwhat you are saying there are no impediments there.

Mr Hosking—I note that the Australian Stock Exchange is seeking to have—and, willingly,Singapore and other jurisdictions in Asia are seeking to have—equity activity shared betweenmarkets. The same goes for the futures exchange. Certainly, our currency is traded as part of theAsian region. I understand there are also discussions between various entities about corporatebond activity and so on, which would indicate that our financial markets are certainlyintegrating into the Asian marketplace. In some areas, the Asian marketplace is not a very welldeveloped market, such as in the government debt and corporate debt area. The opportunity liesthere for Australia’s markets to be part of and to blend into those markets as they evolve.

Senator HOGG—How would that be achieved?

Mr Hosking—Again, it is the export of our experience, skills and well-established regulatoryregime to be adopted by those markets.

Senator HOGG—What fora would provide the basis for that to be achieved: any particularone?

Mr Hosking—There are three or four that come to mind. This week we have IOSCO inSydney, which is a higher regulatory body. I understand that there have been variouscommittees of APEC that have looked into the Australian model as far as corporate andgovernment debt is concerned, more particularly government debt. Commercially, of course,there are the discussions and negotiations that are occurring between the ASX and SFE andvarious stock and futures markets in the region.

Senator HOGG—Let us just assume we can become a centre for Asia. What sort of impactwill that have in terms of employment and contribution to the economy in general? Is there anyestimate of the impact?

Mr Hosking—No, there is not. Looking at employment first, it is a two-edged sword in asense: whilst initially there may be some successes in some sectors as far as employment isconcerned, bringing call centres and other things down, it is not clear to us as to the overallultimate result of globalisation in the sense of just how many people will be used in varioussectors of financial services because of technology. Certainly, if Australia is successful in beinga financial services centre that services Asian currencies and Asian activity, there will be morelawyers and more accountants and more facility providers being employed in Australia thanperhaps there otherwise would have been in the domestic economy.



The other fundamental benefit that has been gained from previous traditional financial centresis that the more financial market activity that occurs in a financial centre, the more cost efficientthat centre becomes; and the more cost efficient the financial services activity within that centrebecomes, the more efficient your economy becomes—through liquidity of the markets, efficientcapital raising and so on. So the long-term benefit is the obvious one that has been gained byprevious financial centres, that of efficiency and liquidity. Theoretically, a greater clustering ofservices around that activity will create in some cases jobs and in some cases additional servicesopportunities.

Senator HOGG—I presume though that, as quickly as you could become the centre, youcould also lose that identity as well. So how does one maintain that momentum?

Mr Hosking—That is the very fundamental question that is confronting all financial centres,including London and New York at the moment. The solution that we have looked at as a centresurrounds the alibility to provide a skilled work force, an innovative environment—so thatcapital is attracted to Australia because of innovation and creativity of financial products andmarkets—and IT&T structure which allows people to operate in this age of communication withthe right equipment, being the computers and the communications lines at the right price. Tome, it is no longer, as the old model was, the case that London and New York were the end of atrading route where there was a port and people were there to transact in the old commoditiesand goods: it is now a World Wide Web with a portal and the ability for people to transact on aglobal basis with the fundamental things: human beings and equipment that allows that globaltransaction.

Senator HOGG—How important is political stability?

Mr Hosking—It cannot be underestimated. I think that with the Asian crisis and the fact thatglobal funds are now so readily moveable, they are more likely to seek places where there areno surprises and where there are relatively predictable outcomes, and that requires politicalstability and an environment which ensures that you do not get abnormal decisions being madein the times of crisis.

Senator SHERRY—Just on that point, legal stability, though, is an interesting issue. I haveno doubt we have got one of the greatest democracies—it is open, transparent, has elections andgovernments come and go; that is the nature of our system—but if you are a business operatorand predictability was an authoritarian regime that can guarantee you an outcome and maybeyou can bribe on the way through, from that point of view there are a number of advantages, Iwould have thought. Indonesia was stable, it was authoritarian and had a military regime for aquarter of a century, and then there was an inevitable, I think, counter-reaction to all of that. Itwas stable, but not for ever.

Mr Hosking—And a lot of people lost a lot of money on the assumption that it was stable.

Senator SHERRY—A lot of people made a lot of money in that quarter of a century, if youlook at their economic growth and who benefited. I am not suggesting that it was a fair andequitable system or the Indonesian bulk of the population prospered.



Senator CONROY—You are not talking about former prime ministers, are you?

Senator SHERRY—But, seriously, I just want to challenge this a little bit because I think wehave got to be careful we do not get caught up in our own democratic rhetoric. I am all for it. Iunderstand some of the difficulties of being a hard-headed businessman operating in anauthoritarian regime, but a lot of them have got the runs on the board in terms of maximisingtheir profit. I just think we have got to be a bit careful of being too simplistic about thesenations. The fact is eastern Asia and these countries have prospered under authoritarian regimes.I am not advocating them but it seems to me that, if you were an economic company investing,why wouldn’t you? What I mean is that they have not been exactly retreating from that area ofthe world.

Mr Hosking—The evidence and comment we have received from the global participants inmarkets these days is that whilst they are willing to take a certain level of risk in certain areas,the core functions of their business and the core activity of their financial services are nowbeing located in places where they believe that there is a level of consistent political—

Senator CONROY—Sovereign risk.

Mr Hosking—Yes, sovereign risk is becoming an issue. Certainly it has been quite plainlystated to me that in an environment such as that in Hong Kong there is an unpalatable level ofrisk there because the established regulatory environment could be changed overnight by adecision of the Chinese mainland, and with the size of the capital markets these days, the coreof those capital markets, activity is not going to be located in places like that. They are showinga preference to be located in places like Australia; albeit there may be changes of government,there may be some changes of view about the workings of the financial marketplace, but theyare not abnormal, outrageous changes that occur from time to time and which have occurred inMalaysia, Indonesia and China.

Senator HOGG—So the Benalla by-election did not have the impact you thought, SenatorConroy.

CHAIR—Thank you very much, Mr Hosking. In relation to your opening statement, is it thewish of the committee that the document be incorporated in the transcript of evidence? Therebeing no objection, it is so ordered.

The document read as follows—



Mr Hosking—Mr Chair, I was asked some questions previously on technology and data. Iwould like to table some fact sheets.

CHAIR—Is it the wish of the committee that the fact sheets be tabled? There being noobjection, it is so ordered.

CHAIR—And we may have one or two questions on notice.

Mr Hosking—Thank you, Chair.



[10.10 a.m.]

FARROW, Mr Kenton Geoffrey, Chief Executive, Australian Financial MarketsAssociation

RAPPELL, Mr John Robert, Director, Research and Policy, Australian Financial MarketsAssociation

CHAIR—Welcome. I invite you to make a short opening statement.

Mr Farrow—Thank you. My function to your request is to cover the areas of financialmarkets that we call bank to bank transactions—wholesale markets is the other term we use.Therefore, I am probably not in a position to help you in areas of retail points of view or wherethe economy is going. Our functionality is to organise the markets in this country. AFMA hasabout 200 organisational members and represents about 10,000 individuals. I have brought areport which you might find handy, because we noticed in some of your documents that youhave been reporting statistics. There is a report put out by AFMA that covers the statistics of thefinancial markets on an annual basis and it has within it all the on-exchange statistics as well asall the over-the-counter statistics.

To give you a bit of a flavour of what is in there, the turnover in this country on an annualbasis is about $38 trillion per year. That is made up of about $27 trillion that happens over thecounter or through wholesale markets and the balance, which takes place on the registeredexchanges. The Futures Exchange turns over just short of $10 trillion and the Stock Exchangeturns over about $680 billion, although I suspect this year it is going to be a bit higher than that.In relativity terms, the largest proportion of Australia’s financial markets actually takes placewithin what is called the wholesale or OTC markets.

CHAIR—Can we table that?

Mr Farrow—Yes.

CHAIR—As there is no objection, it is so ordered.

Mr Farrow—We looked at what you are interested in re opportunities and constraints onAustralia as a centre for global financial services. In the area of opportunities I have markeddown five, and I will run through them if you like. The first one is the continued regulatoryreform. The process that has taken place to date has been excellent, and I am sure you have hadreports from others of how we are being perceived overseas and how overseas people arelooking to copy us—and they have already started to do so. Therefore, we are looking for thiswhole process to continue.

One of the very interesting areas where we see Australia could actually take a leadership stylerole in the world is that of self-regulation. We believe that, as ASIC takes on its responsibilities



for the regulation of the Australian markets, its resources are going to be constrained. Therefore,the need for further regulatory reform will take place, and there is a solution to that. Thatsolution, I believe, is to take advantage of the actual industry itself and to get the industry totake on a far greater responsibility for self-regulation. What I mean by that is that ASIC, in ourview, should always have ultimate control over the regulation of financial markets, but certainfunctionalities can actually be delegated to the industry itself. A few examples would be that wehave regulation that we put down in law but then we have conventions by which the financialmarkets operate. We have codes of conduct by which the financial markets operate, and we arenow in the process of building ethics programs and starting to instil ethics within theprofessionals in this country. It is in areas such as this that the industry can take a greater roleand probably pick up some of the functionality that ASIC will be looking to try to deliver.

To compare that, the term SROs has been used before. There are self-regulatory organisationsin London, for example, where they have actually delegated the authority to second-tier bodies.That model has not worked and the London market has actually pulled it all back into acentralised regulator. Our view is that we do not look for delegation of that power but look fordelegation of the functionality. The functionality or the actual control and power of regulationwould always stay with ASIC, and you would delegate some functions for industry to take uponitself.

The next area, which I am sure you have heard of before, but I have to repeat it, is educationand training. We have a huge opportunity there. We are starting with the increase in theprofessional status of the individuals operating these markets. We perform accreditationprograms for them now and we intend to continue along that path of professionalism. We willhave a professional program for stockbrokers coming up by the end of this year. We need tocontinue down that path of building professionalism within our financial markets.

Once we have that status in place within Australia we need to work on the internationalrecognition of our professionals. We need to build a program of equalisation of ourprofessionals so that the professional status, training and educational qualifications of ouroperatives here are equal to those of any other country in the world. That creates a high level ofregard, of respect, for what we are doing in this country. It also creates a transferability ofpeople both from other jurisdictions coming here and of Australian professionals moving intointernational markets.

Under education and training, we believe very strongly in exporting our training skills. As wehave these emerging markets of Asia, a very clever initiative would be to encourage a lot ofpeople from those markets to come to Australia, to be educated and trained on the job—not justuniversity training but actually within the market place, dealing in the market place. They stayhere for a period of time and when they go back to their countries they have that link back to theplace where they were trained. I believe you will see natural transactional flows eventuate.

The third point is in the area of research. There has been an excellent initiative by a groupcalled SIRCA—the Securities Industry Research Centre of the Asia-Pacific. They pulledtogether 29 Australian universities, pooled the resources of industry and have created a researchcentre. This is a beginning. It is just the start, but I believe this sort of infrastructure, if builtupon, can put us at the forefront of global research. We start getting a reputation of delivering



research, new initiatives and ideas into the global markets. I would like to see that wholeprocess continue, but we are just starting down that path.

Fourthly, there is promotion. I noticed Les Hosking was just here. The Australian Centre forGlobal Finance was a fantastic initiative. We have given it as many ticks as we are allowed togive it. We would encourage the extension of its life for a long time. That process ofcoordinating what we are all doing individually was long overdue. I believe we are going to seesome significant rewards from that down the track. I also believe we should be looking to hostmore international forums. As you mentioned earlier, IOSCO is here at the moment at DarlingHarbour. There are other international bodies similar to that. We should be working with thoseinternational bodies and encourage their forums to be held in this country. That is very effectivepromotion of Australia.

Fifthly, there is market development. We have probably one of the most skilled securitisationdebt markets in the world. We have been building and trading debt products from the early1970s, some of our natural skills and strengths. The government, having given us large levels ofdebt over the last 20 years, has helped to encourage the building of debt markets and debt skills.As Asia starts to need to build its debt markets, we could take that skill and deliver it into thoseforums and make Sydney the hub of the Asian region. A speciality we can export is debt skills.

That concludes my short list of opportunities. We move on to the constraints. Interestwithholding tax is probably the biggest burden we have upon our markets at the moment. Iunderstand it is purely a financial issue. If we can come up with the budgetary funds there is noactual other benefit withholding tax is providing.

CHAIR—What is the cost?

Mr Farrow—I am not privy to exactly what it is, but I suspect it is somewhere between $150million and $250 million per year. That is our calculation. We believe that should be repealedand that it would create a greater flow of transactions in and out of this country and, therefore,the opportunity of being a hub removes one of those burdens and obstacles of free transactionalflow.

The next one is based on the heading of what we are talking about here today: Australia as acentre for global financial services. We have the view that it is very difficult for a country to bea financial centre. I understand there are sensitivities on that issue. The US has New York as itsfinancial centre, England has London as a financial centre, Japan has Tokyo as a financial centreand even China is developing Shanghai as its financial centre. So, in those cases, it is actually acity that is a financial centre. When we look at Australia and what the different cities ofAustralia deliver, we probably need to focus on the strengths of each of those cities and topromote a city’s strength separately as opposed to trying to pool it and call Australia thefinancial centre, because it is not something that these national markets can actually ascribe to.The USA is not a financial centre; the centre is actually a city.

Along those lines, one of the difficulties we have, both domestically and internationally, is thefact that we do not a national business day. It is very confusing for overseas people transactingwhen we have a holiday in one state and not in the other state. It is quite difficult to track which



countries are having national holidays around the world when you are doing deals acrossborders and you then have to worry about which state within that country is open for businesson certain days.

Senator CONROY—We seem to have a corporate law at the moment;, so I think you cangive up on holidays.

Senator SHERRY—I am sorry, but trying to get rid of the 14 local show days in Tasmania isa big ask.

Mr Farrow—I think there are always clever ways around those constraints. I understand thatthey are probably immovable constraints, but then we can just declare business days. We aretrying to work on a process that when the Reserve Bank is open for clearing a settlement we callthat a business day, and we have actually gone a step further and said, ‘When the Reserve Bankis open for clearing in Sydney.

Senator CONROY—So are you saying that we should just adopt Sydney’s public holidays?

Mr Farrow—I am not trying to go down that path; I am just saying that we have to come upwith an answer.

Senator CONROY—That would be the Reserve Bank that would be open in Sydney?

Mr Farrow—Correct.

Senator HOGG—Can we just have a show of hands of those who are in favour?

Senator CONROY—Is there anyone from Sydney on this side of the table?

Senator HOGG—No.

Senator CONROY—I think you are outnumbered.

Mr Farrow—We are just trying to flag it. It is an issue and it needs to be acknowledged. Iunderstand all the other things that are attached to it, but we are trying to project an imageinternationally. That is where I am coming from.

Senator CONROY—We do not mind if you adopt Melbourne’s holidays.

Mr Farrow—I do not mind which centre we pick; it just comes down to the fact that we needa standard day. We could actually just build something that says it is a standard day for financialmarkets trading. If it is a holiday in Sydney and we call it a trading day, then the guys have tocome to work—it just becomes the national day. I think we need to come up with a standardday.

Senator HOGG—What about time zones within Australia?



Mr Farrow—Daylight saving, once again, fits into that same category.

Senator HOGG—No, I am thinking about east to west.

Mr Farrow—The financial markets in this country operate under eastern standard time, andthe west actually come into line—they come to work early and go home early. So that isprobably already standardised.

I will move on to further rationalisation. We strongly believe that having five clearing housesin this country are too many and too confusing. I am sure you will hear this from other sources,but we believe very strongly that those clearing houses should be rationalised. If they cannot bebrought down to a single or one or two clearing centres, we at least should be building a bridgebetween them. Then, if you have your securities or your instruments in one clearing house, youcan actually transfer or trade through another and the bridge will honour that transaction.Euroclear and Cedel have done this for years in Europe.

Senator CONROY—There is a real opportunity to export our skills in this area and havepeople coming here if we can consolidate.

Mr Farrow—Totally. It becomes an international business. It is not something that we aredoing purely for our domestic benefits. It would be very cost saving for the domestic market,but the real benefit is building a hub that we could start taking all this trade through.

Senator SHERRY—What are other countries like in terms of the number of clearing houses?

Mr Rappell—Other countries have some similar problems. For example, Spain recently hadabout eight clearing houses and they rationalised them down to one. However, most economiesof our size have, I think it is fair to say, fewer clearing and settlement facilities than we do,bearing in mind the scope of the current clearing and settlement facilities.

Mr Farrow—So the opportunities are there. If I refer back to the building of Asian debtmarkets: if we can have a clearing system here that actually would clear all those transactions,that would guarantee those transactions flow through the actual Sydney or Australian centre.

The other area of rationalisation is very close to home. We believe there are too manyindustry associations in this country covering this industry. There should be rationalisation inthat area as well, and we are delighted to put our hand up and help.

Senator CONROY—Are you volunteering?

Mr Farrow—Most definitely. We have actually been working with some models as to howwe could go about that.

CHAIR—One of the problems with that is that such groups often take a very narrow focus.

Mr Farrow—Correct.



CHAIR—We had that problem yesterday. We asked IFSA, for example, a question and theysaid, ‘The issue is not relevant to our members, but it might be relevant to other people.’ So ifthe government is only focusing on the major players, there are a lot of gaps in the system.

Mr Farrow—Yes. I think we have to sit down and set the objective first and then flush outwhat all the problems are and try and solve those problems. What brought this to my realisationis that the stockbrokers used to be members of the exchange when it was actually a mutual. Butwhen it became a company, the exchange could no longer represent the interests of the brokers,and they took some reports on board to set up an association representing stockbrokers. Theywere doing it for two years and going nowhere because the cost to set the thing up was veryprohibitive. So I put a proposal to them that, through the AFMA, we would become the office ofthe stockbroking association and I would become the head of the stockbroking association, butyou would have your own board, your own committees and your own agenda; you actuallycentralise all your functionality through one office, one administration, one accountant, onecomputer system, one database and away it goes.

When we started moving down that path, we had some consultants, and Geoff Allen—whomyou have probably come across—said to us, ‘You’ll get bigger efficiencies than justadministration on this. You’ll get policy efficiencies. You’ll find that a lot of the issues arecommon for on-exchange markets and OTC markets.’ What took place? The two big issues onthe table at the moment: GST and CLERP 6. We actually had joint working groups and we haveput single submissions in on both of those. Therefore, when the government receivesinformation back from us, it is receiving one message from both the on-exchange markets andthe OTC markets. That model could be extended. You can actually help and satisfy the specificneeds of people, but you can actually have the whole thing operating through a centralisedadministration centre, centralised policy centre. Where common issues come up, we canactually meet and discuss those before we start moving into inquiries and you can probably cutthis whole process in half in time.

Senator SHERRY—What did the stockbrokers ultimately do?

Mr Farrow—In what way?

Senator SHERRY—In terms of your organisation.

Mr Farrow—You might have heard of G10 affectionately. They formed little private groups,and all the institutional brokers were meeting together informally. There was a little privateclient-brokers association that set up in Melbourne and was trying to represent the retail brokingindustry. It was very fragmented, and just by informal gatherings.

Senator CONROY—So were you successful with your proposal?

Mr Farrow—Very. It was all launched last November. It has been in place now for ninemonths and it has been a huge success. That concludes my introduction. I am open to questions.



CHAIR—We would like a few more specifics on the difficulties of Australia becoming aglobal financial centre. You have mentioned one or two. You did say that essentially it centresaround a city. Mr Hosking indicated earlier that there are groups around America that arecentred on Silicon Valley, Boston and other parts that develop particular expertises. Would youlike to think about that?

Mr Farrow—Sure.

Senator CONROY—If I can just follow that up: I was with Mr Hosking and Mr Hockey inSan Francisco and the people in San Francisco said, ‘What are you going to New York for? Thatis the old, that is last century. We are the Wall Street of the new century.’ They were verystraightforward about it: ‘You are wasting your time over in New York on the east coast. This iswhere it is all happening.’

Mr Farrow—I think that is great. Therefore, if that situation changed in Australia, the centrewould move from what actually is the hub now, Sydney, to another city. I missed out on sayingwhen I was reporting to you that Chicago is the futures centre—and very successfully so.Boston is the financial service, as in funds management, centre. Other cities can havespecialties, but the message is that it is a city that has that specialty as opposed to a countrycollectively that has that. Different cities are going to house the IT parks that are going to bebuilt. It does not have to be Sydney. But when it comes down to the hub of financial marketsdealing it is Sydney. That is where the reality is today. If it moves over time to a differentlocation, that becomes the new hub. That could happen, as you have just pointed out, with SanFrancisco being very hopeful.

Senator CONROY—They did not see it that way at all.

Mr Farrow—I do not think New York is quite off the world money markets yet.

CHAIR—Could you comment on Australia’s standing internationally in relation toaccounting and reporting standards? We had an issue some time ago where the Senatedisallowed one standard.

Mr Farrow—That is not my strength, I am sorry. John, have you got any comment on that?

Mr Rappell—AFMA has an accounting committee, and that accounting committee isworking very strongly in pursuit of the harmonisation of accounting standards. We are alsolooking to work with the Australian accounting standards boards on the standards that are goingforward from about now, because there has been a restructure to ensure that that sort of thinghappens. However, we cannot comment specifically on your question about our standing per se.However, we support the idea of harmonisation, notwithstanding the difficulties of doing that.

Senator HOGG—How are you working on the harmonisation?



Mr Rappell—Most of our members have operations that are both Australian and offshore.As Ken mentioned earlier, we have 200 members. Those individuals and organisations in theirevery day existence have to deal with international standards at the same time.

Senator HOGG—But there is no specific vehicle that is carrying forward the harmonisationprocess?

Mr Farrow—Not within AFMA.

Mr Rappell—We are not leading the process; we are still reactive to the process from theaccounting standards boards and the standard setters. We are looking to take a more proactiverole in order that that harmonisation does take place.

Senator HOGG—So there is no multilateral forum where this is occurring? The reason I amasking is that I have been involved in another committee inquiring into APEC and I know thereare things such as this happening in APEC. Is this the sort of multilateral forum that you areusing, or are you dependent on this occurring solely through individual members?

Mr Farrow—Also, IOSCO is releasing something this week. They have been working onthis. As members of IOSCO, that would be a forum that we would be participating through.

Mr Rappell—There are a number of multilateral fora that we are working through, but weare not at this stage terribly proactive in it. We are becoming more proactive in it as the timegoes on and as we get policy support, particularly from government, to do so.

Senator HOGG—Even with the harmonisation, does that necessarily still make us anattractive place to be a centre? Is that a prerequisite?

Mr Farrow—It is removing an obstacle as opposed to making it a more attractive function. Ibelieve we need to remove anything that is unique to this country and inconsistent withinternational practice. It makes it more difficult to do transactions.

Senator HOGG—So that does not mean coming down to the lowest common denominator,by any means, does it?

Mr Farrow—I would hope not. I do not know whether the Americans, who have tried todominate this agenda on the global front, would be all that keen on the lowest commondenominator either. It is just a matter of watching what comes out. The objective is to fall in linewith international practice. Another example I will throw at you is that in this country all ourfinancial market transactions that have forward exposure are covered under a standard set ofagreements, which are written by the International Swaps and Derivatives Association based inNew York. We adopted that as the Australian standard so that, when we do our transactions, weare totally in line with what is taking place in both the US and Europe.

Senator HOGG—At the end of the day, though, with technology the way it is, theboundaries will be seamless anyway.



Mr Farrow—They are starting to be.

CHAIR—What Mr Roche presented to the committee indicates that in a number of areasAustralia does move fairly fast to capture the latest in technology and efficient trading practices.However, he indicated:

Industry has sought changes to the Inscribed Stock Act for at least the past 8 years to enable legal title in CGSs to besettled electronically.

That is Commonwealth stock. He also said:Treasury has been indicating for the past 18 months that they are in the process of amending the Inscribed Stock Act.ASX has been frustrated by the time it is taking to make the necessary changes.

Have you got any other examples of pockets of indecision which are hampering thedevelopment of Australia as a global financial centre?

Mr Farrow—I am not sure of actually the development of a centre, but dematerialisation ofsecurities within the OTC markets has had that same problem. It has been on the backburnerand not high enough on the priority list; so the financial markets then design ways around thatproblem, because we cannot wait for the solution to come out of the bureaucracy.

CHAIR—But, if you have this premier lobbying group, why aren’t you exercising yourprerogative as that premier group to try and bring about change rather than circumventing theproblem itself?

Mr Farrow—We do. We prioritise these things. We have gone from the top down and we areworking down through that list, but it is on the list.

CHAIR—What are some of the other issues on your list?

Mr Farrow—There is always taxation. It always comes first. Once we get past taxation,there is looking at promotion, which the global centres have done, and looking at education andtraining: all the opportunities that I spelt out are the sorts of things on our list that we are tryingto keep promoting.

CHAIR—You mentioned the withholding tax problems. There, isn’t it a question of makingsure that overseas investors do not have a relative advantage over Australian investors? How dowe overcome that problem, so that we do not effectively disadvantage Australian peoplebecause we are giving an overseas investor a benefit that Australians are not necessarily entitledto?

Mr Rappell—We are not granting them a benefit. We are taking away a handbrake fromthem, Senator. They are currently taxed at 10 per cent of the yield of their investment so, byremoving interest withholding tax, we would be simply putting the overseas investor and theAustralian investor economically on the same footing. At the current time they are not. Theother point that is worth while making is that interest withholding tax is borne both by the issuerin Australia—that is, the government—and by the investor, because it is not a pass-through tax.The international price for these securities is set at a particular level by the markets, and the tax



is worn both the issuer—in this case, the government—and also by the investor, which is theoffshore counterparty, and by the local market, by the way.

CHAIR—What about the other taxation issues like FIF?

Mr Rappell—That is not something we are terribly familiar with, because it is a business thatrelates largely to IBSA’s business. It is one of those silo things that we were speaking aboutearlier. We are not particularly familiar with that. The other organisation that is particularlyfamiliar with that is IBSA, whom I believe you will be speaking with later on today.

CHAIR—Yes, thank you.

Senator CONROY—We hope to see more of you. We usually get the regular suspectsturning up, so we are quite happy to see some new faces.

Mr Farrow—We are happy to help.

CHAIR—Thank you very much for your enthusiastic presentation.

Proceedings suspended from 10.39 a.m. to 10.54 a.m.



GILLIGAN, Dr George Peter (Private capacity)

CHAIR—Welcome to the committee.

Dr Gilligan—Thank you. I am Logan Research Fellow within the Department of BusinessLaw and Taxation at Monash University in Melbourne. I am not a technicist in the area ofbusiness law taxation. As members of the committee noted, I am a criminologist. I came todevelop a research expertise in respect of the regulation of financial markets in the financialservices sector through the initial window of crime. That is in the sense that I was veryinterested in justice issues associated with differential sets of power relations and also thedifferential emphasis within legal processes and structures in relation to what might be termedthe behaviours of the powerful in comparison to conventional criminal behaviours—vis-a-visburglary, street assaults or whatever—and the notions of interpretation of what actuallyconstitutes a crime in terms of white-collar crime, which is a label much of the time rather thanan actual legal category.

I have been specifically looking at white-collar crime as a generic group. There have beenlots of research in terms of occupational health and safety because it tends to be easier—forinstance, if someone has lost an arm, a leg or a life—to differentiate the relationships betweenvictim and offender than it is with the more intangible areas of financial arrangements andfinancial and business dealings. Initially, it was that focus on white-collar crime and organisedcrime that brought me to look at financial markets.

CHAIR—Where did you come from and what was your reason for coming to Australia?

Dr Gilligan—I am an Australian citizen, so I have dual nationality in terms of being Britishand Australian. I came to do my first MA at La Trobe University in Melbourne and then I wentback to Europe from 1990 to 1997, where I did my second masters and a PhD at Cambridge,and then lectured in London. I have since returned to live in Melbourne, a significant factorbeing that my wife is Victorian and certain members of my family—

CHAIR—But there was not any particular aspect of crime in Australia that brought youhere?

Dr Gilligan—No. People were commenting about exporting debt earlier. I think crime iseverywhere; crime is a symptomatic feature of all social arrangements. So there is nothingsignificant about me being in Australia, other than Australia being a very good country in whichto live and bring up a family.

CHAIR—Before you go on, I ask that the committee accept the submission you gave us thismorning. There being no objection, it is so ordered.

Dr Gilligan—You will see that I have briefly made a number of recommendations in relationto the areas of education and telecommunications, an e-commerce strategy for Australia looking



to become a global provider of financial services, increased levels of liaison between theindustry and government so that there are practical initiatives at both policy development andoperational levels, and on the strategic alliances issue which was discussed most particularly bythe evidence given by ASX earlier. Leaving that aside for a moment, what I thought I might dois just make a number of overall comments on something that I have alluded to relatively brieflyin the submission. It is much harder to actually extrapolate in a comprehensive manner in awritten document than it is to do in this sort of interchange. There are all sorts of politicalcontextual factors surrounding financial markets and how financial markets should be regulatedwithin different jurisdictions, given the environment of increasing globalisation of them. Thereare obviously tremendous levels of hybridisation within the markets themselves and within therelevant industries that comprise the various markets—hybridisation of products, hybridisationin terms of the institutional character of those organisations that sell or market these products,both nationally and internationally.

An important point to make, I think, is that under conditions of late modern capitalism nationstates are increasingly mediators of exchange and other economic relationships regarding thefinancial services sector rather than controllers of the financial services sector within theirjurisdiction—which I noted from your questions earlier to organisations and people givingevidence is something that is a concern of yours, Mr Chairman. In that sense, I would say thatthat is just the way it is and I would not consider Australia to be in any way disadvantaged perse by that process because it is a process that is actually affecting every country in the world andit is a process that is affecting even the largest economy in the world to a certain extent, theUnited States. I was chatting earlier to Senator Conroy. It has certainly been evident withinwestern Europe and countries within western Europe through the early 1990s, and I think it isactually informative for Australia to look at the experience of various countries such as the UK,Italy and France in the early 1990s and their experience within the European exchange ratemechanism. There was another concern there, particularly emanating from the chair, aboutpotential threats or disadvantages to stability in financial markets that might be represented byhedge funds and other large operators with significantly leveraged positions. In particular, theQuantum Fund and George Soros et cetera came in for some very heavy levels of negativecriticism and were seen as the standard-bearer of the attack on the pound when the Treasurythrew £6 billion in defence of the pound in three hours and lost it all.

There is a sense that Pandora’s box has been well and truly opened and has flown, in terms ofan individual country seeking to defend a position in respect of its currency in a fight to thedeath, as it were, in defence of a specific position. The volumes of trade flowing throughmarkets are just too large, in terms of trillions of dollars a day floating through foreignexchange markets, obviously seeking avenues of greatest return on capital. Currency exchangeforms the larger proportion of OTC derivative contract arrangements precisely because of firmsseeking to hedge risk and defences in those areas.

That is not to say that my view is that it should be 'hands in the air' and there is nothing wecan do about this. I think that every advanced economy is in a similar situation. My reading ofwhat the ASX, in particular, has been doing in recent times, and particularly its announcementslast week in terms of the hope of building up strategic alliances, is a very sensible strategy. Thefinancial markets, although they operate in these intangible environments, still have to have aphysical functionality. They still have to reside in specific countries. The organisations that will



be making the greatest profits are still, essentially, people. Therefore, the political context,which of course is represented by you as democratically elected members of government, is toseek to defend the national interest and to ensure that notions of sovereign risk are actuallyrelatively protected within this increasingly amorphous and intangible set of arrangements.

CHAIR—We are looking for the answers.

Dr Gilligan—If I had the answers I would probably be a consultant earning an eight-figuresum a year as opposed to the $60,000 to $65,000 that a research fellow gets, although obviouslyworking a lot harder. One of the points I make in the submission, and I think it is relevant tothese sorts of topics, is that of scale. It is interesting to note that probably the only currency thathas not come under any significant level of attack in terms of concerted market sentiment in thelast 20 years is, of course, the US dollar. That is a reflection both of the economic power andscale of the markets and also the background political context of the US as the superpower onthe world political stage. One cannot ignore these background influences that shape economicpolicy. You people are much more attuned to the sensitivities of reacting to what are perceivedpolitical priorities in a particular jurisdiction than I am. Obviously those reactions to what areperceived as political priorities manifest themselves in policy initiatives or further legislation, etcetera.

Moving on with the issue of sovereignty, there have been suggestions, for instance, byProfessor Renata Romano, a law professor at Yale. She recommends what she refers to ascompetitive federalism in financial services regulation. Her argument is essentially a 'laissezfaire' argument, that any US company—or, indeed, any company anywhere in the world—should be able to adopt whatever regulatory system that particular company feels is best suitedto its particular sets of business arrangements, whether that regulatory system is in Costa Rica,in Chile or in a jurisdiction in Africa, or if it happens to be a regulatory system that is actuallyproposed by one of the 50 states of the US. That, if you like, is a logical progression on the onehand, leaving aside all these other contextual factors, of developments in regulation and the factthat many of the actors that operate in the financial services sector operate internationally. Ipersonally am opposed to that, simply because of the ramifications for the vast majority of thegeneral public in relation to financial services decisions. The decision that someone makes inrespect of their superannuation fund, for instance, is far more significant than about a three-piece suite that they may happen to buy or not buy. Therefore, the protective measures need tobe built in by each nation state in relation to the priorities that that particular country perceives.Someone mentioned Bermuda earlier—it might have been Les Hosking. Bermuda is an exampleof a 'Darwinian finches evolution' in financial services. For example, 40 per cent of Hong Kongcorporate organisations are actually listed in Bermuda because of the particular taxarrangements that Bermuda operates in comparison to certain other jurisdictions. Thatobviously has implications and levels of importance for a committee such as yours in trying todecide what should be the appropriate and optimal regulatory arrangement that Australia shouldadopt so that it gets a bigger slice of the pie.

It seems to be—in the submissions that I have read, and I have not seen all of themthatthere is a certain dichotomy between people who recommend that Australia should seek to be aglobal player or that Australia should seek to be a regional player, certainly in the Asia-Pacificregion. My view is that the global strategy is the better strategy because the sector itself is



global rather than regional and increasingly will be global rather than being a regionalorientation. As Senator Hogg was remarking earlier on, there is a sense whether—althoughAustralia may want to perceive itself as integrally involved in the Asia-Pacific region—theother member states in the Asia-Pacific region really perceive Australia as that integrated.Certainly, for instance, comments by Dr Mahathir—about the utility of APEC and perceivingAPEC as not being terribly useful by and large to the interests of those nations withinASEAN—are instructive on that particular point. I have spoken for quite a while. If there arequestions, maybe I should take them.

Senator CONROY—Did you see all of Mr Hosking’s presentation?

Dr Gilligan—Yes.

Senator CONROY—Good. You must have been typing this while he was talking—that is allthat I can conclude. He was talking about the trading time zone advantage and he said he was afirm believer that this gave us a comparative advantage. You argue that it has been overstated.The critical mass issue in Australian financial markets was discussed earlier—I am just trying towork out your time view—and is probably of more importance?

Dr Gilligan—I think so, yes. One of the other people who spoke to you this morning madethe point—and it may have been Les; it may have been somebody else—about what happens ifManhattan operates a 24-hour desk. In reality, most finance centres are already operating 24-hour desks; it is just the actual scale of the operation within that 24-hour period. Although thereare levels of advantage to Australia in terms of the time zone factor, I think there should not bea tremendous reliance placed upon that because it would be a relatively straightforward strategicdecision by a particular large financial organisation—be it J.P. Morgan, for sake of argument, orDeutsche Bank—to create a really comprehensive 24-hour operation, particularly withdevelopments in information technology that actually reduce the reliance upon having players'on the street' in the other jurisdictions in which a particular organisation might be operating.

Another point that one of the early presenters made, which was well made too, is that,although it is a relatively anonymous sector and there are many intangible products that aretraded within the financial services sector, it is still people who are engaging within thosecontractual and trading relationships. So those personal relationships, whether it be on anorganisational basis or on an individual basis, are still extremely important. I think the demiseof London that some people have noted, either in the press or even in one or two of thesubmissions I have seen, is vastly overstated, because people have been predicting the demise ofLondon as a finance centre for over 100 years if you trace it back to when the gold standard, forinstance, was removed.

Because of Britain’s heritage as an imperial power, its colonial past, the markets of London,in comparison to the financial markets of contemporary Western European nations at that time,have always been more international. So they have always had this focus outwards. A goodanalogy is to think of London as almost an inverted pyramid. Rather than thinking of it as apyramid of markets, banks and all the institutions that are actually there, it is actually moreinverted in a sense that it is the substantive on-ground networking relationships, which happenbecause people have located in London, that actually give it greater liquidity and depth of



liquidity to be more innovative and to have the financial resources to back the introduction ofnew products that actually expand the size of markets and the size of the share of markets.

I make a point in the footnotes that taxation arrangements can be crucial to this wholeparadigm. Certainly the establishment of the Eurodollar markets in London in the mid-1960swere largely a reaction to the introduction of the tax equalisation legislation that the UnitedStates introduced in 1963. American banks sought to move some of their merchant bankingoperations offshore to evade the tax responsibilities of remaining functioning in New York.

Senator CONROY—We have seen the first real evidence of backlash against theconsolidations and concentrations you are talking about—in Seattle, Davos, Washington justrecently and Melbourne which is about to be visited by similar activity. You have heard mejoking about Benalla and how it is feeling disenfranchised because Melbourne makes all thedecisions. It is a real problem for politicians to try to grapple with how we convince people thatwe should not be standing against this. How do we explain to them that there are benefits andthey are going to be part of that, not just that Australia is going to be better off or a few peopleliving on the waterfront in Sydney are going to be better off because the value of theirproperties has just been bid up by the three people who just arrived? How do we cope with that?

Dr Gilligan—It has to be part of a broader educative platform that begins literally withteaching children financial management right through workplace based education programs andthe educative programs that ASIC and other agencies run. In comparison to some otherregulators, Australia does pretty well on those issues. I make the comment in the writtensubmission that I believe the regulatory model that Australia operates post the Wallis inquiry isa good model. It is important to retain that public agency character at the apex of any regulatorystructures that do exist.

One of the earlier speakers, Ken, made the point about the financial services authority beingestablished in the UK and the reaction against what was perceived as the limitation to the self-regulatory organisations. Certainly the self-regulatory organisations had a relatively poorregulatory record. But the FSA still remains a private company limited by guarantee, which Ifeel is a fundamental weakness, although it reports to various parliamentary committees. In theUS, the SEC essentially remains a public agency. Most people would agree that probably themost effective regulatory regime in the financial services sector around the world has been theUS regime. I think it was you, Senator, who mentioned insider dealing earlier. If you look at theregulatory records against insider dealing you will have on average in the US something like 50or 60 investigations that might lead to between 250 and 300 prosecutions per year. In the UK,there has been legislation against insider dealing since 1980 and yet there have only been in theregion of 26 prosecutions. The city in the UK, probably more than in New York, is a fairlyinsular sort of environment.

Senator CONROY—Nice club to be in.

Dr Gilligan—Yes, exactly. Coming back to your question, even though members of thepublic, whether they are young people smashing large plate glass windows in London or Seattleor whether they are people who feel relatively disenfranchised in regional Victoria, you cannothold back the tide of systemic changes in the economy. Therefore people have to be educated



that, although there are elements of these changes in a post-industrial economy they may notlike, they are here and they are not going to go away unless there is some enormous conflict.

Senator CONROY—There is an inherent contradiction, though, trying to convince them thatthey are going to benefit. Maybe I show my Labor Party credentials on this, but a taxationsystem that redistributes some of those gains to the people who are definitely not gaining seemsto be an anathema. Mention of the word ‘tax’ leads to, ‘Oh no. If you have a tax system that’smore pernicious than Bermuda, we’re off to Bermuda.’ How do you reconcile trying to spreadthose benefits around? It is one thing to educate people that someone else is doing well; they arejust not likely to vote for you if you tell them that someone else is going to do particularly welland you are not going to be able to deal with any of their problems that are caused by it. Andyet, at the same time, the people who are benefiting are tax resistant, with quite blatant threatsof, ‘We’ll just go offshore.’

Dr Gilligan—Essentially, it has got to be multilateral initiatives and collaborativearrangements between different nation states. What is fairly instructive in this area is, forinstance, money laundering. If we look at how different jurisdictions around the world havereacted to money laundering—again, led by the US as part of its 'jihad' against drugs,essentially that has been the major motivation for it. My view is that the whole drugs issueshould actually be a social health issue rather than a law and order issue mainly, and rather thana supply focus, which is what the US have tended initially to have, it should be a demand focus.

Leaving that aside, what is tending to happen is that there has been pressure on the so-calledtax havens. The most obvious targets for criticism have been jurisdictions such as Liechtenstein,the Cayman Islands, Jersey, Guernsey, the Isle of Man, et cetera. The Cayman Islands is thefifth largest banking centre in the world. The only logical explanation as to why the CaymanIslands is the fifth largest banking centre in the world is the taxation arrangement the CaymanIslands has. In lectures I used to give I would throw up these overheads to students, and one wasof Barclays Bank in Clapham in south London. I said, ‘How much money do you think goesthrough Barclays Bank on a daily basis?’—a typical suburban bank that one might have inArmadale or wherever. It was £5 million a day.

Senator CONROY—And closed now—it is okay.

Dr Gilligan—That is why I mentioned it. Then I used to throw up this other overhead with ashack with shutters and doors hanging off, and it was Barclays Bank PLC in the CaymanIslands. I said, ‘That opens for 20 minutes on a daily basis for business. How much money goesthrough there?’ The answer was £500 million a day. Essentially it was not going through thatphysical location of the bank; it was because of the shelf companies, et cetera, that existed there.It is interesting how the Caymans has responded to the criticism it has got from other overseasjurisdictions—in particular, again, obviously, the United States, because the United States tendsto lead developments in this area—and so it has introduced anti-money-laundering legislation.

The OECD is in the process of drawing up what are colloquially referred to as the black listsand white lists of jurisdictions. For those jurisdictions that may be labelled on the black list,there will be pressure on them to produce ramifications in their regulatory arrangements toallow them to continue to trade, because, at the end of the day, the thing that you can do to



actually stop a rogue jurisdiction, as it were, is to at least keep it out of the legitimate ball gameof the market. At the moment there are massive sums of illegitimate money flowing throughlegitimate markets, and the burden on the private sector banks, et cetera, to police that is simplyhuge. They are not going to make due diligence inquiries through 56 different sets ofinterlocking corporations when a broker is deciding whether or not to make a deal.

A longwinded way of responding to your question is that the stress has to be on saying topeople that, increasingly, they have to become more self-reliant in their arrangements for theirworking life—and, indeed, for their post-working life—in terms of superannuation. Althoughgovernment revenues may be seen to be continually expanding, there is also a sense that thestate in most advanced economies is reducing its level of responsibilities and the levels ofservice that it provides to its community simply because of the cost of providing those services.People constantly have been encouraged to become more self-reliant, and a core factor of that isthe fact that the increasing growth of service industries, in particular the financial servicessector, means that it becomes more integral to the GDP of economies around the world. Comingback to the earlier points about the political context, it is important for Australia to be locked in,in a sense of mutual interest, with jurisdictions and commercial organisations overseas, becauseotherwise the sheer size of Australia, despite its time zone advantages, will see it becomingincreasingly marginalised and isolated.

Senator CONROY—I have one last question before I stop monopolising the time. I am notsure if you were here earlier when I asked this question of Mr Roche, the very first presentation:if you form an alliance, particularly with some of the Asian markets, how do you maintainintegrity when you basically have to have an agreed set of listing rules? Some of the othercountries that we would potentially be forming an alliance with would not share some of thevalues inherent in our listing rules. How do we get around that problem?

Dr Gilligan—In a sense, you cannot overcome it to the level of actually ensuring that thestandards of probity that you demand and expect and that exist here in Australia may or may notbe represented elsewhere. Some other jurisdictions might argue that their standards of probityare higher than standards that exist in Australia.

Senator CONROY—So should we compromise ours to go into an alliance like that?

Dr Gilligan—There is a sense that one should not sell 'the entire family silver' for the sake ofbeing engaged in cooperative international arrangements. An alliance may be an alliance or acommercial agreement. If the conditions relative to that agreement change or worsen in thefuture, informed decisions are made—whether it be the Australian parliament or exchangessuch as the ASX—that the renegotiation or withdrawal from those alliances may or may notoccur.

Senator CONROY—That becomes a real threat to our sovereignty. Let us say we formed analliance with Hong Kong, Singapore and maybe a couple of Asian exchanges, and theAustralian parliament decided it wanted to change a law to enforce a particular issue withinlisting. We say to the ASX, ‘You must do this,’ but they are in this international conglomerate.The pressure would be to reject the Australian parliament’s view because we could not maintain



the alliance. If we said, ‘You have to have this new listing rule,’ and all the other countries said,‘Get stuffed,’ that is a real worry for us in terms of sovereignty.

Dr Gilligan—I am sure you would have plenty of lobbyists knocking on your door.

Senator CONROY—The Stock Exchange would be coming out and saying, ‘You’rethreatening Australia’s entire fabric.’

Dr Gilligan—What might be a useful analogy is if you think back to the East Asian financialcrisis, for instance. Effectively, in Malaysia Dr Mahathir drew down the portcullis on exchangerelationships in the ringgit. There was a perception within the press at the time and everywherethat Malaysia would pay seriously for this in the future, would be isolated and alienated andwould be something of a pariah in international markets. There were very high profileexchanges of opinion between Dr Mahathir and George Soros, for example, on this particularissue. The commercial reality is, of course, as time has gone on, as economic conditions in Asiahave improved and as Malaysia has been brought back into the fold, there is no vindictivereaction being superimposed upon Malaysia for the actions it took two years ago. There is asense that business must go on and relationships will adapt and change.

The proposal in relation to the exchange is informative on this. In the submission, I make thepoint about the ASX announcing that it wishes to engage in alliances with iX in terms ofLondon, Frankfurt and Deutsche Boerse and the London Stock Exchange. I quote an articlefrom the Economist in September 1999 entitled ‘The quick and the dead’. The gist of thecomment of the writer is that the much publicised merger between London and Frankfurt after14 months is dead in the water. Here we are, seven months later, with Werner Seifert and GavinCasey essentially signing a model of agreement.

Someone else alluded to the perceptions in London, and one term I have seen used was thatthe dowry that the Germans supposedly got from the deal was larger than the dowry that theBritish markets got. That is true and not true, because on the derivatives markets, certainlysecondary markets, Deutsche Boerse has been absolutely ‘towelling’ LIFFE over the last 18-month to two-year period. Again, it comes back to this political context of Europe moving to asingle currency, of the European Central Bank locating in Germany, of a relatively small financecentre in Frankfurt but still the European Central Bank is located in Germany because it is thelargest economy in the EU. Then obviously there is going to be a move towards centring someof the activities and particularly trading in euros and euro-related products to a single exchangefor economies of scale.

The French were livid about it over a period from 1997 to 2000. The head of the MATIF washighly critical in the press about what he saw being sold down the river by the traditionalpartner in the Franco-German alliance within the EC, and now EU, arrangements. That, if youlike, is an example of national self-interest which can never be disqualified from a situationmanifesting itself in alliance exchange relationships.

London has been the premier finance centre. As I said earlier, I think London’s demise hasbeen stated before and overstated before, and it is being overstated again currently, I would say.It makes sense in terms of the peculiar British characteristics of not wanting to be involved in



certain aspects of European integration. It makes sense obviously for London commercially tooperate more closely, and it makes fundamental sense to me for Australia to be doing that aswell. One of the things I have mentioned in the submission is that perhaps the committee oughtto seriously consider whether it should recommend changes in cross-vesting arrangements thatmay exist in terms of ownership of Australian exchanges or Australian organisations, becauseobviously people from outside are not going to come and invest capital and resources, whetherthey be physical, human or whatever, if they do not perceive themselves as deriving benefitsfrom it. Increasingly, although those transactions occur across national borders, theorganisational infrastructures of both businesses and exchanges have got to be international.

Senator CONROY—I could keep going for hours but I am sure some of my other colleagueswould like to ask questions.

CHAIR—You indicate that by way of recommendation the select committee should lobbyfor increased public education programs regarding financial services building on the emphasisof ASIC, ASX and other organisations. What is the focus of those education programs? Arethey community? Are they university programs?

Dr Gilligan—I think they have got to be across the board. Ken—is it?— who went beforeme, was talking about the greater emphasis they are putting on professionalisation within theindustry, and certainly that is very necessary, but it has obviously got to be within thecommunity as well. It comes back to Senator Conroy’s point about how you explain to peoplewho feel disenfranchised and isolated in terms of developments of the late modern economyand, for instance, are very hostile to what banks have been doing in the way that they haveorganised their operations over the last two or three years. Some older people lack confidence inthe sense of actually liking the passbook savings book type of arrangement. They do not trusttelephone banking or they do not feel comfortable in a telephone banking situation, so I thinkthis is where there has to be greater networking and levels of cooperation between state andfederal government structures in the industries themselves, if you like, to provide what youmight term a social service. But it is also a social service philosophy providing business benefitsand commercial benefits to the organisations in the sense that the industry has to do more andhas to put more resources itself into its responsibilities of helping to educate people to becomemore proficient in how they view and utilise financial services because their financial wellbeingis increasingly going to become more dependent upon how much more proficient they dobecome.

As I say, Pandora is out of the box. There is no way anyone can jump out of the rowing boatof those particular developments, in my view, because they will drown unless there is a statesafety net to actually catch them. So it is going to be resource positive for the government andthe private sector to put these resources in because, in my view, you will develop higher levelsof investors just in terms of numbers, and you will develop higher levels of project-activeinvestors because the other important point to note about the demography, if you like, ofAustralian investors is that they are relatively passive. The vast majority of people who holdstocks and shares or whatever in this country are holding Telstra, Commonwealth Bank, Qantasand AMP, or whatever, and will not really trade them, whereas in the United States over 30 percent of the population are actively trading in mutual funds and will have trading clubs. We haveall seen this represented on television, et cetera, where ordinary working people are getting



together in trading clubs and are cognisant not only of the gains that they can make, becausethere has been this massive bull run market, but are also aware that there are risks andramifications associated with it.

Senator SHERRY—Are they?

Dr Gilligan—I think people are.

Senator SHERRY—I have seen some of that coverage on SBS where they interviewed thoseshare clubs, and most of them were giving the impression that they only saw one way to go—up.

Dr Gilligan—Some may have. It all depends on what particular snippet the TV stationchooses to show. If they all thought the other way, there would have been a mass migration on asemi-permanent basis of day traders out of the markets, and we are not seeing that at all. We areactually seeing greater levels of oscillation. Remember that, in many ways, it is obviously betterto have an upward market because people will make more profits in an upward market than in adownward market. The periods of volatility actually represent great opportunities too.Obviously I agree with you that a lot of people who are day traders in the US are notsophisticated investors per se, but remember they are also quite heavily involved in mutualfunds. You will have much of the middle class of the United States who will have a substantialproportion of their income being directed towards mutual funds in a way that people inAustralia and in Western Europe do not.

Senator SHERRY—Yes, but in the US mutual funds are driven by tax incentives. They arenot driven by compulsion or by mandatory membership. You have got on to this passiveinvestment issue vis-a-vis America and the structure of their mutual funds, which encouragesactivism in terms of investment—very high activism. It is quite phenomenal to watch peopletrading within their retirement fund. We do not have that yet in Australia. That was leading meto seek your view in the context of Australia, where we have a compulsory superannuationmarket and everyone who is an employee has to belong. Do you see limits to the levels to whichyou can educate 100 per cent or even the majority of people to an informed level to makedecisions that will impact on their, in this case, long-term retirement future?

Dr Gilligan—There will always be limits and there will always be relative levels ofsophistication that people are going to reach. A lot of it comes back to the core political andstructural arrangements, both social and economic, that exist in different countries, in the sensethat in Australia there is the tradition of centralised wage bargaining—there has been a greaterresponsibility by the state for the welfare of its citizens—in comparison with somewhere likethe United States, which places a much greater emphasis philosophically, for historical reasonsin terms of the War of Independence, et cetera, on liberal individualism and people seeking tobe self-sufficient. Within that context, in the United States for virtually all of the 20th centurythere have been higher levels of active mum and dad investors in stocks and shares, which iswhy the crash of 1929 induced the reactions it did in the United States, which were moreaccentuated than in many other advanced economies at the time, and was the reason for the'New Deal' legislation of 1933-34 with the Securities Act 1933, the Glass-Steagall Act 1933 andthe Securities Exchange Act 1934, which established the Securities Exchange Commission. So



the United States has had that greater sense of prudential supervision from the nationalgovernment in relation to its financial markets than perhaps any other country. One very goodreason for that is that those people vote, so there is a political imperative to actually protectpeople in the United States.

To return to your question about superannuation, I think it is a sensible, political, social andeconomic strategy to have compulsory superannuation in a country. I am glad that Australia hasit and I think it is to the benefit of most citizens that that happens. Inevitably there will alwaysbe a number of citizens who, if they did not have to save their superannuation, would not. Theywould go and spend it on whatever commodities they chose to spend it on, whether that wasdown at the TAB, at the casino, on a car, on an overseas holiday, on a beach house or whatever.There is a strategic coercive influence, as it were, forcing them to save through thesuperannuation avenue. I think that should be retained. What should happen then is a gradualprocess of education and innovation for people to graft on another level of sophistication orawareness in relation to financial markets and in relation to financial investments. The reality isthat the financial services sector worldwide is now so important to the national political agendasof most advanced economies that I think it almost could not be turned back unless there wassomething very dramatic happening on a worldwide scale.

Therefore, the financial services sector now has a structural importance in comparison withhow it was even five, 10, 15 or 20 years ago in most advanced economies, and that process isaccelerating. It is important for Australia and Australians to be aware of that fact and to respondto it themselves both in terms of their individual strategies and in terms of the organisationalstrategies and philosophies that the major financial organisations and the exchanges have. Youare seeing that from the exchanges and the Australian banks. The difficulty that people like youface is that it comes down to committees such as this, and the parliament in general, to make thespecific decisions on what those frameworks and formats should be. There is not a universaltemplate to follow, and the decisions that are made by any parliament in any different countrywill be relative to what are perceived as the major responsibilities or priorities that thatparticular country or that particular parliament has at that particular time.

I will paraphrase a comment I made in my book—I will not plug the book here—relating tothis: 'The choice does not have to be between ultraliberalism and unfettered free marketorthodoxy on the one hand and restrictive and interventive action by the state on the other.There is scope for convergence between liberalised financial markets and regulation motivatedby concerns for wellbeing.' I make the point that, if such congruence is not found, financialservices regulation in the 21st century will be little better than in 1721, when the French bankerMartin observed, before plunging into the South Sea stock: ‘When the rest of the world aremad, we must imitate them in some measure.’ So this is not new. The problems that you aregrappling with are not new, in one sense. Two hundred years ago, the same difficulties werefaced. There were just fewer players in the market and fewer people within those countries thatwere the players, but they faced similar sorts of issues. That is the challenge. It is an educativechallenge across industry, governments and countries.

Senator CONROY—Capital threatening to take its bat and ball and go wherever it wants ifit does not get what it wants is not a new phenomenon.



Dr Gilligan—No.

Senator CONROY—It is just more fluid and mobile now and has the capacity to deliverinstantaneously.

Dr Gilligan—It is also more difficult to control. In the context of 15, 20 or even 10 yearsago, probably the key innovations were the removal of foreign exchange controls in the lateseventies and early eighties and developments in information technology. They were the twomain drivers, they continue to be the two main drivers and I cannot see how they will be turnedback. It is illogical to turn it back although, in one sense, it might scare a lot of people—and theprotests in the street and the protests at the ballot box are representations of the fears andanxieties that people have.

CHAIR—What causes it to flounder is the integrity or lack of integrity of the Internet or thesystem. If these viruses are able to cause such havoc, that alone can cause major problems.

Senator CONROY—It is a technological issue rather than a regulatory issue.

Dr Gilligan—Speaking as someone who had 1,850 files infected and deleted last week by thedreaded ‘love bug’ virus—I did not open an ‘I love you’, I hasten to add; it came from a chieflibrarian of a major library in Australia and went straight through his address book, straight tome and straight through my system—I think Senator Conroy is right that that is a technicalissue. Although there might be, as in that particular instance, a short-term crisis—be it of hours,days or weeks in a worst case scenario—I do not think it would detonate the infrastructures thathave built up because of developments in information technology in the last 10 years inparticular. It is also instructive to look at the turn of the century and, in particular, todevelopments to the telegraph in the United States. In the space of between two and three yearsat the turn of the century, between 2,000 and 3,000 new telegraph companies were establishedin the United States. It has the analogy with the whole dot com explosion that is happening now.Within 20 years, they were down to less than 20.

Senator CONROY—And car companies were the same.

Senator SHERRY—And radio companies.

Senator CONROY—The problem is that the concentrations of wealth that we are expectedto be accumulating as fast as we can are going to widen that gap to what could be a politicallyunacceptable level, and that is beginning to be represented now. I am a bit cynical about Seattle.I think that the American labour unions were running along and Mr Clinton was trying to helpMr Gore—and more power to them. So I am a bit cynical about Seattle, but it certainly seems tohave spread further than just an organised American union campaign. Those concentrations ofwealth will lead to the inevitable social consequences. If people are not conscious of that now,in 20 or 30 years time—as I said, I think the cycle is getting shorter—there will be a muchgreater political backlash than you are seeing now.



Dr Gilligan—I think the point you made several times this morning about the shortening ofcycles is right. I think that is manifested in a whole host of arrangements under late moderncapitalism. The swings and gyrations in stock indices in recent months are one example of that.At the university I am at in Monash there are posters all over the place advertising coalitionagainst global capitalism, blah blah, blah. There is a sense of frustration. It is hard to give anadequate explanation for this because it is such a disparate phenomenon, but certainly there aresome people who feel that they are left out, they are left behind, and they see no way of gettingon the train, as it were.

Senator CONROY—It is ironic that it is a university campus leading the charge—the majorlikely beneficiaries.

Dr Gilligan—Yes, exactly. It is a complex scenario. As someone who has spent the last 10years researching financial services regulation and vis-a-vis regulatory standards and systemsand crime issues associated with that from a social sciences background, they are obviouslysome of the sorts of issues that I take on board, and it is very difficult to produce hermeticexplanations on the postage stamp, as it were, for these phenomena. So it obviously becomesvery difficult to produce coherent arguments for a large spread of people within communities allaround the world. We focus on what is happening in Seattle or in London or maybe inMelbourne, but you have to think geopolitically about the fact that the entire sub-Sahara isalmost a forgotten zone and has absolutely no hope, one would think, within the next 20, 30 or40 years of actually—

Senator CONROY—I wonder if that is how the people in Benalla feel.

Dr Gilligan—Again, it is all questions of scale of dislocation and disenfranchisement.Obviously an Australian parliament or an Australian parliamentary committee in itsrecommendations can be cognisant of those sorts of factors, but it can only seek to makerecommendations or develop policy formulations in respect of their local situation—that is,Australia. We all know that education is a slow process at times. We have all been through itand I know when I give lectures or seminars to various students at various times there have tobe various priorities of time as well as priorities of scale in terms of educative programs. Youcould build in benchmarks—

Senator SHERRY—Sorry, I want to pick you up on this education issue. You have referredto it in terms of education of markets. I do not have a problem with education, but what I do notaccept is that it is the panacea. We face this issue with choice with respect to superannuation.We are getting all this advice—‘Go out and educate the masses to make logical and rationalfinancial decisions’—when the real world teaches me that 15 per cent of the people out there arefunctionally illiterate and all the education campaigns in the world are not going to reach them.I suspect there is a large proportion of people you will never reach. It would not matter whetheryou sat them down in front of a TV or a computer screen and chained them to it for five or 10years; it just will not make a difference. Therefore, certainly from my philosophical point ofview, there should be a balance in the way the state protects those people from the market,despite the enthusiasms of the educators that we have urging us to do various things.



Dr Gilligan—If I have given the impression that I see education as a panacea, then that ismisinformed; that is certainly not my view. Your comment earlier about doing business inauthoritarian regimes is perfectly right. It does not matter whether it is authoritarian regimes,whether they be military dictatorships in Latin America or whether they be in Indonesia or evenwithin some of our closest trading partners. Capitalism is a very logical and functional system.Capital will seek those avenues where capital can make the greatest amounts of more capitalunless, of course, there are fetters put in the way vis-a-vis social intervention, social justiceprograms et cetera. It becomes a question of balance. I am not suggesting for one minute thatany Australian commercial organisation should not be going in to bat in competition againstother commercial organisations from other sectors simply because there is a political regimethat is executing political dissidents, because you would very quickly start reducing the tradeportfolio that is available to Australian companies. Obviously that is an extreme example. It is aquestion of balance and having an overall comprehensive integrated strategy that seeks theeducative function at one end but at the other end seeks to facilitate the projection of Australiancapital, or Australian capital actors, to be gaining as large a slice of the pie as they can incompetitive world markets. At the end of the day, the pie analogy applies. Every single countrywants as big a slice of that pie as possible. Every single country has committees like yoursseeking to find and evolve ways to ensure that not only do they retain the slice of pie they maycurrently have but seek to increase that slice of the pie. There are going to be oscillationsobviously in terms of market share.

I am sorry if I sound repetitive, but I come back to the issue that it is important to facilitatethe ability and capabilities of Australian actors in this area, whether they be individuals, whetherthey be exchanges or whether they be banks, merchant banks or pension funds, to engage incooperative arrangements. I think there is going to have to be not necessarily a dilution ofsovereignty issues but there is going to have to be a willingness to possibly be prepared to bemore exposed to notions of sovereign risk than perhaps countries have been used to in the past.I really think that is the paradigm we have now. It certainly has not been absorbed in thecommunity. Your comments about the street protests obviously put that on board. You weremaking the point about different levels of education and sophistication in terms of awareness ofmarkets and financial services et cetera. I do not think it has even been that well absorbed atthose higher levels of the chain of knowledge, awareness and exposure in the market.

Giving a plug again for myself, if you like, in the submission there is almost a completeabsence of comparative data on how different sectors view these sorts of arrangements. Thesecultural elements are extremely important because they are the background context that actuallyshapes the regulatory structures and shapes the commercial and regulatory interaction thatdifferent countries have. So, at a very crude level and with limited resources, the project I amrunning, as I mentioned to Senator Conroy over tea earlier, is to go to six different jurisdictionsand ask the same questions within the six different jurisdictions about the significant culturaland other normative factors that decide people’s view on how effective their regulatory systemsare, and indeed how effective they perceive to be the regulatory systems of the other countriesthat are in the particular small sample I have got. I think that kind of cooperative research couldbe facilitated through international organisations eventually. There has to be a greater emphasison that organic process. We are essentially an empirical knowledge society, and a lot of timeswe have to make—and, indeed, actors in the financial services sector have to make—veryeducated guesses as to how things may or may not be received in terms of their products or in



terms of their strategies, in a range of jurisdictions that can be very different. Russia is a goodexample. For example, you have an open acknowledgment by organisations such as the IMFand the World Bank that between 75 and 80 per cent of financial institutions in Russia are eithercontrolled by or affiliated with what might be loosely termed organised crime interests, yet youstill have the IMF and the World Bank—

Senator CONROY—That is right; it is 100 per cent in Australia.

Dr Gilligan—Tranches of loans are $22 billion because there is a recognition that it is atransition economy and that these guys who may now have the image of black overcoats andsubmachine guns very soon will be much more acceptable in terms of Western standards ofcultural acceptance than they have been in the past.

Senator CONROY—It is how they would police their bad debts that we would be worriedabout.

Dr Gilligan—Indeed, but an analogy is the US in the 19th century, because some of the verysame processes and structural arrangements that exist in contemporary Russia were present inthe United States in the early 19th century and some of the business practices of scions ofAmerican society and commerce—be they Leland Stamford, Daniel Drew or NelsonRockefeller—are some of the very same processes that are happening in what was the SovietUnion and obviously Russia today. So there has got to be a fluidity and flexibility particularlyfor a jurisdiction like Australia that is relatively small, has a small population base, and is notintegrated into political and economic groupings to the same extent, depth and stability as othercomparably sized countries, such as Western European jurisdictions or even jurisdictions inCentral America.

There has to be a preparedness to react to these changing demands, to be flexible in terms ofstructural reforms that may or may not be introduced with the proviso that the parameters ofnational interest still have to be protected, but the views on those parameters of national interestI suspect will change and continue to change—they always have done. But, coming back to thepoint you made earlier, the scale and pace of that level of change will continue to increase interms of reacting to global effects in the economy.

CHAIR—I am afraid our time has run out. Thank you very much for appearing before thecommittee today.

Dr Gilligan—Thank you very much. The final point—I dare say no-one will ever want tohear my voice again—but if you need any follow-up assistance at any stage, please feel free.



[11.52 a.m.]

de BROUWER, Professor Gordon John (Private capacity)

CHAIR—I welcome Professor de Brouwer. Please feel free to comment on any matters thathave arisen.

Prof. de Brouwer—I am a professor of economics at the Australian National University andI appear in a private capacity. At the ANU, I am responsible for research on the Japaneseeconomy and its relations with the Asia-Pacific. So why am I here today?

Senator SHERRY—Sorry, we are smiling because we have been hearing about the Japaneseeconomy.

Senator CONROY—Treasury think the Japanese economy is going to boom for us.

Prof. de Brouwer—Yes, okay.

Senator CONROY—We think they are optimists.

Senator HOGG—And you are seeking a second opinion.

Prof. de Brouwer—Not for another year or two, I think. The reason I am here today is that,until the end of last year, I was Chief Manager International Markets and Relations at theReserve Bank. I was there for about nine years, mostly as a macro-economist. For the pastcouple of years I had been in international markets. I was mostly involved in issues ofinternational financial architecture, particularly hedge fund issues, but I also did some work onSydney as a regional financial centre.

Senator CONROY—When you were with the Reserve Bank?

Prof. de Brouwer—Yes, when I was at the Reserve Bank. So I have got some thoughts andcomments on those sorts of issues and also, more generally, comments on globalisation—that isif you want to pursue that in questions. But these comments are, of course, my own comments;they would not be anything to do with the Reserve Bank; they are made purely in a privatecapacity.

I guess I will take five minutes to talk about a couple of issues. Everyone knows thatAustralia has large developed financial markets that service the domestic economy very well.The issue is really how these financial markets can be used to become an international tradingarea, to become a global financial services centre. Generally when people think about what aglobal financial services centre is, there may be three kinds of business you can be doing. One isthe provision of financial services to a region, and in our case that would be the Asian region.So that would be mainly competing with places like Hong Kong and Singapore.



The second type is global activity in our time zone. So the nature of financial markets is that abook—a foreign exchange book, for example—is traded around the globe. It passes from NewYork to Australia to London. So it is whether Australia can be one of those areas which handlesthe book. So it is still there competing with Hong Kong and Singapore basically in holding thisbook, although there are time zone advantages.The third type of business that can be done ismanaging a global book. That is where a firm’s global business is in fact run from Australia, sothe responsibility lies in Australia. In that case, the Australian markets are competing withplaces like New York and London. So there are the three types of categorisation. Australia hasrelative benefits and disadvantages in relation to these types, but there are particular possibilitieswithin all of them. You have probably heard a lot of information about the relative advantagesof Australia as a financial centre, but maybe I can talk about a couple of issues related to therealism of this idea and then some of the constraints that still exist.

Firstly, there is certainly a window of opportunity in advancing Australia as a financial area.The Asian financial crisis showed just how robust the operation of the regulatory regime is andhow robust the policy regime is in Australia. There is some disillusion generally about whathappened in Hong Kong with the stock market intervention and concern about the rule of law inHong Kong under Chinese sovereignty. There is also the fact that many financial institutions arenow reorganising, merging and restructuring their international activities.

Regarding how realistic it is, we will probably talk about this a bit more but it is a verycompetitive market. Everyone is trying to push their market. Singapore, in particular, has beenpushing it very strongly in the past couple of years. It is a moving game, and if we do somethingnow we can still fall behind because the game shifts. It is also in a sense not so clear within thisinternational restructuring whether corporations want to have big regional presences orwithdraw to major centres like New York and London. It is especially not very clear withforeign exchange business. There seems to be some contraction to major centres away fromregional centres as part of this consolidation process.

There are three issues that still stand out in terms of advancing Australia’s interests. The firstis the branding issue. The key is that it is necessary to advance Sydney as the financial centre,rather than Australia as a financial centre. In financial markets, it does not mean a lot to talkabout Australia. It means much more to talk about Sydney, because then you focus the attentionof people on a particular area—and Sydney is the hub. That is not to say that other areas in thecountry are not important, particularly in back office and support functions. That could happenthroughout regional Australia or in other major metropolitan areas. The branding issue is animportant one, and it is a way of attracting people’s attention. They do not understand Australiaas a financial centre. They understand Sydney as a financial centre.

The second issue goes to marketing. Economists would generally think that marketing is notso important, that people do their cost-benefit analysis and the bottom line is what matters. Infact, presentation does matter a lot in advancing interests. There have been very substantialdevelopments with the task force, for example, on Australia as a global services centre. That isextremely valuable, but more can be done by obtaining greater high level involvement. Thatmeans the very strong support of the Treasurer and the wider involvement of other key peopleand institutions in the financial sector. That includes, for example, the Reserve Bank governorbeing actively involved in promoting financial markets in Australia and ASIC being involved as



the holder of market integrity, as well as APRA on the prudential side. Again, having these sortsof institutions involved in the process is important because a large part of the attraction ofmarkets here is in fact the very strong and clean regulatory regime that exists. Marketing is veryimportant, and more needs to be done to concentrate on that with a wider range of involvement.

The final issue would come up to tax issues. When you talk to people about tax, some peoplesay it is important and some people do not. It comes down to other issues: tax is, for example,just one element in a costing of setting up a business. Other costing elements may be veryfavourable. For example, staff costs, buildings—those sorts of things—are very favourable here.But the tax issue, in a sense, is regarded by some as being detrimental or not favourable tointernational activity in financial markets here. There have been substantial changes andimprovements in that. A couple of years ago people always talked about the transaction taxes—the FID and the BAD—and they were essentially off the agenda within a year.

Senator CONROY—Five years.

Prof. de Brouwer—Five years, yes.

Senator CONROY—If you were a cynic you would say one of them is staying.

Prof. de Brouwer—Yes, but in general it is falling away. People talked about high corporatetax rates. In the past couple of years that has always been an issue when you compare corporatetax rates. In relation to the headline tax rates in Australia compared with Hong Kong andSingapore, Australia just seemed unfavourable. But the reductions in corporate tax rates are, infact, favourable, so the 30 per cent is an advantage there. But there are other problems thatpeople do talk about besides the ones you have heard this morning. In relation to the taxation ofindividuals—specifically the expatriates who provide these services or lead the operations—thisis a factor in decision making. These people are high worth individuals. If they operate here, ifthey are working here, not only is their Australian income taxed, their offshore income is alsotaxed, and at a relatively high marginal tax rate: 47 per cent compared with Singapore, 28 percent, or Hong Kong, 15 per cent.

People do talk about this as being an issue. The people who make the decisions about whetherthey are going to be located here and set up an operation here or lead a big operation here do notwant to come here because they are personally disadvantaged by the process. And when youthink about the cost to revenue of these sorts of things, dollars are always important but it is amatter of several million dollars. There is some cost, obviously, because you are giving uprevenue, but if you only tax their Australian dollar income as opposed to taxing their completeincome—

Senator CONROY—They should benefit from our infrastructure and make a contributionback.

Prof. de Brouwer—No, they are making the contribution in terms of paying tax on theearnings they make here, but their own personal offshore income that they generate throughtheir own—



Senator CONROY—And how do you secure their income onshore if they are allowed to betax free offshore?

Prof. de Brouwer—That is exactly right. I think you have to address that issue. You do notwant complete tax avoidance so there is no domestic income. It is an issue, anyway.

Senator SHERRY—I understand why it is an issue because you often do get thesecomparisons made, but it is difficult to make—

Senator CONROY—It is remarkable everyone has not moved to Hong Kong.

Senator SHERRY—I can understand why. Why would you live in Hong Kong? To makevalid comparisons—for example, you mentioned Singapore, 28 per cent income tax. But theircompulsory contributions to their retirement fund are extraordinarily high, the highest in theworld. Hong Kong are just introducing a three per cent compulsory pension savings plan, but anextraordinarily low income tax. It is not easy to make valid comparisons, but if you look atAustralia on a total tax take list, it is very close to the bottom of the OECD.

Prof. De Brouwer—Yes, that is right. On an average basis, through the OECD, its taxation islowest.

Senator CONROY—It is remarkable how many intelligent people cannot tell the differencebetween an average and a marginal tax rate when they are earning hundreds of thousands ofdollars. It staggers me.

Prof. de Brouwer—I do not think it is that issue. It is a tax on aggregate income for theseindividuals. They face high marginal tax rates on their Australian income and also on anyoffshore income they may earn. These are high wealth individuals with other sources of income.They are being taxed on income which they are not earning in Australia. It is only thatcomponent really that people are focusing on. For these individuals, their average level oftaxation in Australia is higher than the average level of taxation in the economy in general. It isa different average.

The final issue concerns the operation of our offshore banking units. One issue that has comeup a lot is the way that the regime operates. There have been quite substantial changes inrelation to OBUs, which is very favourable to the OBU regime. But one issue relating to theoperation of the regime is that, if an OBU earns more than 10 per cent of its income throughnon-OBU sources, it ceases to be an OBU. That means that definitions of what is and what isnot OBU income are extremely important, as are the operational rules set down by the ATO. Ifyou talk to people in the market about these issues they say that the operational rules are notclear. They sometimes say that matters have been treated retrospectively, where the rules or theinterpretations have been changed, and because of that it makes them very risk averse. Giventhis, without a clear framework and without clear definitions, we are not going to do very muchOBU business. The OBU business—if you think that is important—is another side of theinternational scene. In a sense the operation of the regime is undermining the integrity of theregime. That means laws need to be clearly defined and clear definitions provided. You alsoneed very clear rulings from the authorities involved.



Senator CONROY—You would like a few private binding rulings?

CHAIR—It is whether 10 per cent is the right figure though, isn’t it?

Prof. de Brouwer—That is right. It sounds arbitrary. I do not know where it comes from.Maybe because they have a 10 per cent—

CHAIR—Is it too high or too low?

Senator SHERRY—All tax rates are arbitrary. How do you get to a tax rate?

Prof. de Brouwer—I do not know what the most efficient rate would be, but to a degree thenumber does not mean very much. People have become so risk averse that it is going to bemuch lower than 10 per cent. There are concerns there, I think. That is what you hear in themarkets.

CHAIR—Is there a case for raising it then?

Prof. de Brouwer—Yes, if you want to attract more of that business or if you wantdiversified operations. One other very substantial impediment to these operations was thatpeople had to run separate accounts. I think that has changed. They had to run two sets of booksbasically. That became very expensive and very administratively cumbersome, especially ifwhat you thought was OBU business was not. It is very hard to unwind your books. I thinkthose things have changed. It has become administratively less complex, but those issues stillremain. It is necessary to reduce the complexity or the difficulty involved in operating thesystem if international business is to be done here.

Senator CONROY—I want to ask you about an issue that you may not be able to give usany advice on. It was not an issue that you touched on. We are trying to establish a greater poolof liquidity. ‘Systemic failure’ is the wrong term because the word ‘failure’ is too strong, butthere is a herd mentality where everyone rushes in one direction at once and then rushes inanother direction the next day, and that sort thing. It is not a systemic failure but it is a systemicweakness because it does not allow for the fact, or it does not notice, that people all rush to onestock or rush to another. You do not get the analysis if there is too much of a concentration, andthe greater the level of concentration, the greater capacity there is to miss an opportunity. Youmay say at the end of the day that they will work it out and that there is a big buck to be madeover there, but it is a bit of a systemic weakness in that the concentrations, when they cometogether, tend to just move in one direction at once. Do you see an argument there to try to keepthings a bit more diversified?

Prof. de Brouwer—Yes. The phenomenon of herding in financial markets is—

Senator CONROY—We are all dead in the long run, don’t forget.

Prof. de Brouwer—It is such an apparent phenomenon. Really, for most people in themarkets, it can be quite disturbing not to have people taking bets on fundamentals or putting



positions based on real fundamentals in a market but based on the short-term momentum ordynamics of the market. It is a problem because it can lead to overshooting away fromfundamental prices. The overshooting can occur for prolonged periods of time and can haveserious consequences. For example, the US stock market currently is regarded as—

Senator CONROY—As overshooting?

Prof. de Brouwer—Overshot, yes. What are the consequences of that? They can be quitesubstantial because it leads to a period of overconsumption and a period of overinvestment.Typically, what happens after a period of overconsumption and overinvestment is a period ofunderconsumption and underinvestment. So you get greater amplitude in the cycle.

Senator CONROY—But it also sucks capital away from other areas; other areas sufferbecause everything is being sucked in.

Prof. de Brouwer—Yes, that is true. It is very hard. What is the alternative if you are notgoing to give it to the market? Centrally planned economies have been shown to perform morepoorly than market economies.

Senator SHERRY—Certainly up until the 1940s or 1950s I think you could argue that theyperformed pretty impressively.

Prof. de Brouwer—Yes.

Senator SHERRY—But, after that—

Senator CONROY—Some fundamentals caught up with them.

Prof. de Brouwer—Yes, that is right. These systems did not support initiative and wealthcreation. But there is a problem of overshooting. How do you deal with it? As you say, one coreway is promoting the depth of a market, having more participants, because that brings moreplayers to the market, which means that there is more willingness for someone to be on theother side so you would probably get less extreme price action.

Senator SHERRY—Just to pick you up on that point, I have read a number of articles thatargue that one of the reasons for the overshooting of the market is that you have a substantialnumber of middle-income players through their mutual funds. For the first time in Americanhistory, a big new slab of the market is not behaving rationally. This is counter to the view youhave just put that you bring in new players.

Senator CONROY—I refer back to Dr Gilligan’s example of the Frenchman in the 17thatcentury saying, ‘Just before you leap into these stocks, we’ve all got to behave as madly aseverybody else.’

Prof. de Brouwer—Yes. There is a work by Charles Kindleberger. He talks about there beinga financial crisis every 10 years or so and it has been happening for hundreds of years. As I say,



it is not a new phenomenon to financial markets. We have experienced bubbles and maniasgoing back hundreds of years. But they continue to occur and they will occur in the future.Maybe the key is to have a policy regime which is robust to deal with them. Partly that comesfrom having a clear prudential regulatory regime. One of the core problems with bubbles is ifthey feed through into the intermediation process. If there is a constraint on bank lending basedon collateral that is highly artificially inflated, then that sort of constraint is good because itprevents weaknesses from occurring in the financial sector. We know now that financialintermediation is extremely important to maintaining steady and stable growth in an economy.

Senator CONROY—Before the pop in the last month or two, they were actually activelycanvassing in the US the prospect of limiting how much you could borrow in terms of yourmargin. You could only borrow 50 per cent against the margin. That is almost as thoughsocialism had suddenly arrived in America—a socially-planned economy-style direction.

Prof. de Brouwer—Yes, I think variations of margins occur within markets themselvesautomatically. Over a business cycle, the credit risks move and people’s margins also move withthose. If it is coming from the authorities, well, the US is probably a more regulated economythan people tend to suppose. It is a fairly regulated economy. But the market does these thingsalso; there is a cycle in margins. It may be that with some of these bubbles you wait until afterthey have burst. The US Fed showed the way they deal with these things in 1987 when the stockmarket collapsed. They lowered interest rates. When the bond market seized in the Decemberquarter of 1998, they lowered interest rates and they provided much more easy liquidity to thesystem. That ameliorates the worst of it.

It is a worrisome phenomenon. People really do not know how to deal with herding. It comesdown to different things. Having just a few participants in a market means that you get bigdiscrete price changes within that market. For example, I do not know if you are familiar withReserve Bank material in relation to the activities of hedge funds in June 1998. The problemthat arose there was essentially that it seemed to be that one large player had an effect on themarket so that either people were putting on similar positions, trying to mimic the positions,because they thought the price dynamics were going to go one way, it was just a one-way bet, orthat the effect was to chill the market. People who would normally be on the other side of atransaction simply withdrew from the market and liquidity just dried up, which meant that bigprice movements occurred with very little trade. Relatively small trades could generate very bigprice movements.

Senator CONROY—I think the Hong Kong central banker came to Australia and hedescribed it as something far more manipulative where people took an option—and I will neverget this right in my explanation so excuse me if I get it the wrong way round—or that themovement was going to be over here. Then they set about to create the movement. I know thatthe Reserve Bank made comments subsequent to that. I have not seen the report you arereferring to.

Prof. de Brouwer—That happened in Australia to a degree, but that was an incident. I thinkit was much more intense in Hong Kong’s case. I think what the Hong Kong authorities say isright. It does happen. These players in markets are out there to make a buck. But these sorts ofproblems with market integrity arise and they are dealt with to a degree with disciplining. For



example, if you get players who come in and do that in a market, other people in the market willnot want to deal with them. There is a disciplining mechanism within the market itself. I haveseen that occur in markets—most particularly in New Zealand’s case. New Zealand is a muchsmaller market, it only has a few players and you can see it in their prices. You do not get thismanipulative behaviour because other players will not deal with players that do this. It is notjust a one-shot game.

Senator CONROY—But that is counteracted by the fact that you do not have to be nice; youare in it to make a buck. It does not matter if you like someone.

Prof. de Brouwer—That is true, but you are in it to make a buck. You make a buck today,but you want to be in there tomorrow to make a buck tomorrow and the day after. Your abilityto make a buck in succeeding days depends on what you do today.

Senator CONROY—Short termism in terms of being driven by your superannuation fundmembers who want the best possible daily, weekly, fortnightly, monthly return though does notleave you a lot of scope. Whatever the kill is for the day, you have got to be in it otherwise yourmark against the rest of the market is going to be below and that sort of short termism is asystemic weakness.

Prof. de Brouwer—Yes, that is right; there is a series of forces that are operating here. Thereare some forces within the market itself which are self-disciplining, self-regulating and there areother forces, like short termism or one-shot players, which will undermine that. Over time it isthe confluence of these forces, the mixture of the two, that determines the outcomes.

There are forces on both sides. It is not just one-way. There are disciplining mechanismswithin the market and there are also, in a sense, disciplining mechanisms from regulators. Forexample, some people tried to do some major plays on Australian share price features a numberof years ago. They were pursued by ASIC and that led to a civil case and it was severelyembarrassing for them. That sort of thing limits this behaviour. If you want to do business withthe government and you are operating to the detriment of the market, then the government isless likely to want to do business with you in a whole range of other areas. A firm's standing asa player depends on its overall activity and how it enters markets.

CHAIR—Despite all this good sentiment about marketing integrity and despite aprudentially regulated system, there are incidents. What is the extent of these deliberatelyinduced market volatilities that we are seeing certainly on a monthly basis, if not morefrequently, in relation to certain products or certain stocks?

Prof. de Brouwer—That is the nature of financial markets. That is just the way they work. Itis there regularly.

CHAIR—And there is nothing we can do about it?

Prof. de Brouwer—It is called ‘price discovery’. There is not a lot.



CHAIR—If you have a big enough share, you could sell it down and make money.

Prof. de Brouwer—In exchange traded markets, there are rules on behaviour. There are twosorts of markets. There are over-the-counter markets, which are more difficult to regulate. Evenif there is a set of rules and protocols for behaviour, they are very hard to enforce becausebasically it is private behaviour. When there are exchange traded products, there are particularrules for exchange traded products, and generally people say the integrity or the price formationprocess in exchange traded markets is cleaner than in OTC markets. But it is always an issue ofwhether a market can be regulated—there is a whole history of law makers trying to regulate aparticular market—but that market may close up and another, unregulated, market, open up.

CHAIR—Should we be looking to regulate the sorts of markets that superannuation fundscan invest in?

Prof. de Brouwer—No, it does not mean that there should not be guidelines andrequirements or some prudential requirements on institutions, but you cannot limit the way theyinvest or the markets that they are involved in because this impedes their capacity to make highreturns for their shareholders.

CHAIR—Is this the sort of industry where we should be seeking volatility? Shouldn’t wereally be seeking good average returns over a long period, rather than have a system of somefunds getting high values but consequently, at times, having severe losses? This can impactparticularly on individuals given the timing of their entry or exit from the fund?

Prof. de Brouwer—You need to have competitive markets. If you dictate what everyone cando, you reduce competition and you reduce the incentives to do good analysis, to seek out highreturns and to invest properly. There can be a fairly substantial efficiency loss from that process.What you say is right; you want to focus on average returns. If you have short-term volatilitiesor if you have volatilities in particular markets, sometimes the volatilities net out. Over time, ifyou make bad returns for a period of time, maybe you make above market returns for anotherperiod of time, so you look at the average return. I do not think you want to evaluate theperformance of super funds on a very short-term basis; it is necessary to take a longer-termperspective because there are these volatilities. Part of the dynamism of the markets is allowingpeople to make investment choices that best maximise returns to their holders. That is importantto securing the long-term future of savers.

CHAIR—It certainly lifts the risk profile significantly though.

Prof. de Brouwer—There is risk, but without risk there is very little return, and risks can bemanaged. Risks are managed by diversifying a portfolio. There are risks, but you cannot live ina world without risks.

Senator SHERRY—In the superannuation area—I am just digressing a bit here—people arecompelled to belong and to invest, people who otherwise would not be in the market.Concerning this argument about investment choice, there are a whole variety of scenarios aboutwhat people will do. I suspect the majority will do nothing and leave it to trustees. For thosewho actually do something, so far a lot of the anecdotal evidence points to them making highly



conservative choices, not taking risks at all, presumably because they just do not know. That istheir nature. You have to ask yourself, is that a good thing?

Prof. de Brouwer—If people are making choices for themselves, in a sense that is theirresponsibility.

Senator SHERRY—But it is a bit broader when you force them into a system. You mightponder that.

CHAIR—Thank you very much, Professor de Brouwer. I appreciate you coming here beforethe committee.

Proceedings suspended from 12.25 p.m. to 1.35 p.m.



DUFFIELD, Mr Jeremy Geoffrey, Managing Director, Vanguard Investments AustraliaLtd

ACTING CHAIR (Senator Sherry)—I welcome you, Mr Duffield. We have a submissionfrom you that we will accept. I invite you to make an opening statement.

Mr Duffield—Thank you for the opportunity to present our views on Australia as a globalfinancial services centre. I am also chairman of Plum Financial Services, the MLC VanguardInitiative. Vanguard Australia is the Australian arm of The Vanguard Group, which is thesecond largest mutual fund complex in the world with roughly a trillion dollars undermanagement. I returned to Australia in 1996 to launch Vanguard Investments Australia asVanguard’s first overseas operation. Since then our business has grown to the point where wemanage some $9 billion in assets for some 2,000 individual and institutional clients. We havealso created a joint venture called Plum Financial Services with MLC, which provides topquality member investment choice services to superannuation plans.

As a relatively new entrant with a large US parent, Vanguard is an excellent case study in theattractions and issues related to Australia as a global financial centre. I hope that by sharingsome of our experiences today we might offer this committee some lessons on how to buildAustralia’s role as a global financial services centre.

We have presented a submission to you and that addresses a lot of the details that I would liketo address. But I would really like to cover it in three broad points. Firstly, I think Australia is aworld class location for serving a substantial and growing domestic funds management market.It really is a good place to do business. It has many strengths and these are well-known—I thinkthe quality of the labour force, the size of the local business, the regulatory system. However, itis a constant challenge to keep up with the pace of regulatory and tax reform. The industryseems to need to fight a continual rearguard action with regulators in the Treasury to ensure theindustry’s future is not jeopardised by unintended consequences of reform.

The most recent example is the threat to the industry related to the definition of collectiveinvestment vehicles—the threat to impose corporate tax on managed funds that do not qualifyas collective investment vehicles. One of the most sacred principles of managed fundsthroughout the world is that they have 'pass-through treatment' so that the income and capitalgains they earn is passed through the client without tax so that the investor who buys through acollective investment vehicle is in the same position as if they had bought the shares directly. Ifwe do not define collective investment vehicles correctly, many funds will not qualify ascollective investment vehicles and will be subject to corporate tax. So it is a really importantpoint about how the collective investment vehicle regime is defined, and that requires somedetail. But we think if definitions are not adequate there is a chance that many of the funds inthe industry will not qualify for CIVs and be very disadvantaged as providers. So we basicallyrecommend the Treasury accept the IFSA submission on collective investment vehicles to makefunds that are clearly designed for the purpose of serving investors on a portfolio basis beeligible as collective investment vehicles. That would be our first major recommendation.



The second and third points really relate to what I often say make the managed funds industryin Australia a `no import, no export' business. It is very difficult to argue that Australia could bea global financial centre for funds management if overseas based managed funds cannot beimported into the Australian market and Australian based funds cannot be exported. That ispretty much the situation today. It is very difficult to import funds from overseas and it is verydifficult to export Australian funds to overseas investors. So my second point relates to thedifficulties relating to importation of managed funds into Australia. While Australia’s fundsmanagement marketplace is reasonably competitive, there would be many advantages forinstitutions and consumers in allowing well regulated funds with similar tax set-ups to be soldin Australia. I think Australia could have a much broader choice of funds available toconsumers and I think there would be many funds that would be a much lower cost than fundsthat are currently available in Australia.

Vanguard is perhaps the world’s leading provider of low cost managed funds. Our averagemanagement expense ratio on a fund in the US is 0.27 per cent, and that compares to theaverage in Australia of 1.8 per cent per year. That gap presents a huge cost to Australianinvestors and they ought to have the opportunity to have that gap narrowed. The governmentrecognised this late last year when it exempted US mutual funds from foreign investment fundrules which had previously made it impossible to sell funds in Australia. However, when on theone hand the government giveth, on the other hand they taketh away.

Senator CONROY—Shame on you, Senator Watson!

Mr Duffield—The business tax reform rules would not allow US funds to qualify forcollective investment vehicle status. As a result, US funds would be disadvantaged relative tolocal funds regarding the treatment of long-term capital gains. Basically, distribution of long-term capital gains from a US fund would not qualify for the discounts available on tax rates onlong-term capital gains. That is a serious problem. It puts the US funds at a very greatdisadvantage and, frankly, they will not be offered here under those circumstances.

CHAIR—It could also be a problem if a fund had large overseas shareholding in its portfolio.

Mr Duffield—Why is that?

CHAIR—Isn’t there a limitation on overseas investors qualifying; the same reason that yousaid disadvantage?

Mr Duffield—That is right. That is why it is very important that the definition of thecollective investment vehicles be very broad and allow funds that are generally designed withthe purpose of serving as portfolio investments to be offered to Australians. To give a USexample of the way the industry works over there, for the last almost 60 years there has been aspecial chapter of the IRS Internal Revenue Code called subchapter M. It relates to managedfunds and defines the funds not by the number of investors that they have in them or the typesof investors but by the diversification of the fund, the investment policies of the fund and therequirement to pass all income and capital gains out. That has served the US industry very well.

CHAIR—Why do you think we did not go down that route here in Australia?



Mr Duffield—I am not entirely sure.

CHAIR—It has left some players out. They are disadvantaged.

Mr Duffield—There are many players that are concerned that they have funds with very fewinvestors, still legitimate collecting investment vehicles, and that they will not qualify under thenew rules. That would mean that they cannot start up a new fund and they cannot keep anexisting fund that is small but promising. For example, when we introduced our retail fundshere in Australia which offer much lower cost to our investors, we would not qualify under thenew rules, and we are the second largest fund group in the world. After a year our funds wouldstill in many ways not qualify for CIV treatment.

Senator CONROY—I thought that the stated aim of both government and opposition in thisarea was to try and get competitive neutrality. I am trying to work out what has gone wrong.

Mr Duffield—It is in the details. There has been a lot of confusion in the past because unittrusts are structured as trusts. There has been a difficulty in drawing a line between a unit trustand a family trust or a unit trust and a business organised as a trust. If we define ‘collectivevehicles’ right here, we can make a clear differentiation between what is genuinely a portfoliomanaged fund and what is a family business or a family trust.

Senator CONROY—Would you have some words that could find a separation betweenthose two entities?

Mr Duffield—Not off the top of my head. I am sure we can work on them.

Senator CONROY—Perhaps you could take it on notice and come back to us with asuggested wording that would still allow the integrity of what you were trying to achievewithout disadvantaging us.

Senator SHERRY—Are you a member of IFSA?

Mr Duffield—Yes, we are.

Senator SHERRY—I wonder why they have not raised this issue.

Senator CONROY—The chairman had a lengthy discussion with them yesterday.

Mr Duffield—IFSA’s submission addresses this as a very important issue. My third point isthat exporting managed funds based in Australia is inordinately difficult due to tax rules. This isreally a shame. Vanguard Australia constantly must turn down opportunities to sell ourAustralian based funds to overseas investors. Just yesterday I was working with a Singaporebased client to whom I could not sell our Australian based funds but to whom I could sell ourDublin based funds. Australian withholding tax and capital gains tax issues made it totallyimpractical to offer them our Australian based funds. Only our offshore funds based in Dublin



would work for them, despite the fact that our Australian funds were cheaper and moreeffective, in a better time zone and with better service capability.

Senator CONROY—Why would you offer them a Dublin based fund rather than anAmerican based fund?

Mr Duffield—Because the Dublin funds actually work best from a tax point of view. Theybasically do not have dividend withholding from Ireland.

Senator CONROY—So it is a tax based issue. Of the three, Dublin has got the best.

Mr Duffield—That is right. I do not think Australia would be disadvantaged by moving to anenvironment where it allows funds to be offered to overseas investors without withholding taxbecause, frankly, we are not getting any foreign investors today. We have, in a sense, nothing tolose. It is not just Singapore: we turn down clients from Hong Kong and New Zealand.We didnot even look at offering our Australian funds to Japan, where we are currently working,because of tax reasons. I think this is a real shame. These lost opportunities result in lostrevenues in Australia and lost jobs for no gain to Australia or to Australia’s reputation as aglobal financial services centre. The problems are basically twofold: dividend withholding taxand capital gains tax on investors who might at one time own more than 10 per cent of the fund.Basically, the rules say that, if you own more than 10 per cent of the fund at any point, you aresubject to Australian capital gains tax of up to 48 per cent. So that just says, ‘No, you are notgoing to invest in an Australian based fund.’

The offshore banking unit rules that were introduced a year or so ago address some of theseissues but they really require us to create a separate company and a separate fund. We couldreplicate the whole thing in an OBU unit trust and that might work okay, but it would be veryexpensive to do that. We would rather forgo the tax advantages of an OBU and just be able tosell our existing domestically based fund to an overseas investor when they have an interest. Ithink it is critically important that Australia become an exporter of funds management services.We have the best funds management business in the region and I really think we have anopportunity to learn to export our services if we can make funds tax efficient for overseasinvestors.

CHAIR—So it is not a question of just reducing the withholding tax, it is a question ofeliminating it completely.

Mr Duffield—Yes. For instance, let us say an investor were to invest in an international fundthat invested all across the world. Why should Australia have dividend withholding taxes ondividends that have already been subject to dividend withholding tax in the local environment?Australia does not gain because nobody invests in a fund like that and we just lose the jobopportunities. My conclusion is that changing the tax rules could be accomplished withoutrevenue loss and, in fact, would result in revenue gain over time as we build the local industry.As I understand it, it is a tax neutral issue or tax positive issue over time.

In summary, to build the Australian industry we need to make sure that we are not creatingburdensome regulation through often unintended consequences. There are fine details that can



really disrupt the industry. We need to serve the local consumer well by allowing importation ofoverseas funds if they are well regulated and similar in tax set up to Australian funds. Lastly, tobuild Australia as a global financial services centre, we need to help our funds to be exported toother jurisdictions.

CHAIR—What were the impediments to you for setting up in Australia?

Mr Duffield—I actually thought Australia was terrific in terms of coming here to a marketwith low barriers to entry and, obviously, the English speaking language. There is a terrificchoice of cities. Both Sydney and Melbourne would have been excellent places for us to dobusiness.

Senator CONROY—Why did you pick Melbourne?

Mr Duffield—I am a Melbourne boy.

Senator CONROY—Excellent choice.

Mr Duffield—I might say that Vanguard also operates in a regional centre. We operate 20miles out of Philadelphia. We are the largest employer in the county and we are very happy withthat kind of out-of-the-financial-capital notion; we find we get a much more stable work force.

Senator SHERRY—You had better get out of Melbourne then.

Mr Duffield—Tasmania would be the next place to go.

Senator SHERRY—Thank you.

Senator HOGG—What about Queensland?

Mr Duffield—We found the work force to be terrific, and we are very happy with the workforce we have in Melbourne. We found that the skills in the Australian marketplace wereterrific. Actually we found potential customers to be very open, so I think the Australian marketis really very sophisticated by world standards and very open to new ideas. I think Australiansare terrific in that sense. We have had a good listen and our business has grown accordingly, sowe have been quite well received.

I must say that I feel sometimes that the government is running my business, in the sense thatjust trying to keep up with the government’s changes in the tax code or the regulatory reform,from the managed investment act to superannuation reforms to GST is a treadmill. I salute theenergy of the government, but it would be nice to actually direct it into something that isdirectly productive for the client.

I would say that regulatory change is a bit of a barrier but, in general, Australia has been aterrific place to do business. We will actually look to whether we can do other things inAustralia, such as building IT development centres in Australia. We have massive call centre



capabilities. We will look at those issues and see if we cannot make sense of the link andcontinue to build the business down here.

CHAIR—Is e-commerce in America?

Mr Duffield—Yes. We are a huge e-commerce provider. We have a million registered userson our web site in the US and we probably have 400 people working on our web site in the US.So it is a very big part of our business going forward, and that is actually one of the areas wewould like to develop potentially in Australia.

Senator SHERRY—To what extent does the Australian system of compulsorysuperannuation play a part in companies like Vanguard locating in Australia? Effectively, youhave got a growing collective investment pool to work with.

Mr Duffield—Absolutely. That was the key attraction to come into the marketplace. TheSGC program really assured that the funds management pool would be a growing one into thelong distance future. So that made it very attractive to set up in Australia.

Senator SHERRY—It is one of the reasons why the banks are paranoid about you, as well.What you say is a real pity: I have done a number of trips, including to New York, a short whileago and there is a real interest in the Australian retirement model. So there is an opportunitythere to build on that interest with the funds management developments that have occurred as aconsequent largely of that model.

Mr Duffield—Yes. We have the potential to have the most developed funds managementmarket in the Asian region, and I think we have just got to capitalise.

CHAIR—Are you solely index managers?

Mr Duffield—We are solely index managers here in Australia. We can take some credit forgetting indexing on the map in Australia. Before we came out, it was really a forgotten art; andwe have been able to lower the cost to Australian investors. It has been our key focus. In the USwe also use active managers, more on a ‘manage the manager’ approach, so we use 25 outsidemanagers.

Senator CONROY—In terms of your MER 0.27 per cent, which is very impressive, are youable to match that here in Australia? You say that the Australian average is 1.8. Are you findingsomething that is putting your Australia based MER higher than your 0.27?

Mr Duffield—Yes. We cannot match that here in Australia, because of the size of the marketinitially. Our retail MERs are 0.9 to start and then they decline with assets going up; but wehave not been able to match that US level yet. We have to get more scale and some moreoperating efficiencies. If we could bring our US funds over, we could get closer.

CHAIR—What would be the advantage of bringing your US funds over?



Mr Duffield—Really to get a great degree of choice for Australian investors and lower costs.For instance, we operate the largest single fund in the world. It has a management expense ratioof 0.18 per cent. It is solely invested in US securities, but there may be many Australians whowould like to invest in that fund.

CHAIR—What about exchange risks?

Mr Duffield—There is always exchange risk in international investments, and we clearlydisclose those risks. I think Australians are increasingly going to invest offshore, because theyrecognise that Australia is less than two per cent of the world equity markets. They will look toways to hedge that risk but, if we keep increasing our book of foreign assets that we own overhere, it is also going to help our currency in the long run—because we are going to be entitledto the rewards of those foreign investments.

CHAIR—What sort of returns would you be getting on US securities at the moment?

Mr Duffield—It depends which moment. Over the—

CHAIR—No: today, last week—it does not matter.

Mr Duffield—It varies so much. In the last three years, on our international fund the returnshave been about 27 per cent per annum. It has been a good period for foreign investing, and alot of that has been driven by the US, which is about 50 per cent of the world markets.

CHAIR—So 27 per cent gives you a lot of room for exchange losses.

Mr Duffield—Actually, the exchange has gone the right way for investors in foreigninvestments. As the Australian dollar has come down, the returns from overseas investmentshave been enhanced substantially. Just this year, I believe, the Australian dollar has come off 9½per cent versus the trade weighted index. That has been very beneficial to anyone investing inoverseas investments. There is always the risk they can go the other way.

Senator SHERRY—We have got public debate largely about one model of choice insuperannuation. I will not go into that at the moment—that is membership choice. But, on theissue of investment choice, most funds in Australia have picked that up. It is still in its earlydays, I think. Have you been involved in those developments at all?

Mr Duffield—Yes, we have. In fact, our joint venture Plum Financial Services is designed tobring US experience to the member investment choice area. We are the number two provider of401K services in the United States and the top quality provider, so we try to bring ourexpertise—that was a factual statement.

Senator SHERRY—I was a guest at Principles and they assured me they were number onein terms of quality. But I assume that your service levels are not that dissimilar and extremelyimpressive. The range of investment choice options within 401K plan is just overwhelming,really.



Mr Duffield—I think it is also the emphasis on education, which is genuine. I think we have250 people just working on education for the 401K business in the US. We are trying to bringthat same experience and the lessons we have learnt over 15 years down to our Australian effortthrough Plum. I think it is working quite well, actually.

Senator CONROY—If I can just change the topic for a moment, you mentioned you arehaving a problem with the GST. I am sure you know you are not alone, but I am sure those adsmake you feel better, too.

Senator SHERRY—‘The chains are off’.

Senator CONROY—Could you expand on your problem there with the GST? You says thatpeople receiving this are liable to the GST. Are you looking for an input credit there?

Mr Duffield—This one may go a little bit beyond my expertise; I am still struggling withGST. But I think we would be concerned, if there were foreign funds sold in Australia, how youwould deal with the GST on that issue.

CHAIR—That has not been resolved yet. Can you take us through the ramifications forAustralian shareholders using you to invest on the Australian market and bringing the dividendsor the returns back, in terms of the American tax consequences of that?

Mr Duffield—This would be if an Australian investor is investing in one of our US funds?

CHAIR—Yes, using you in Australia.

Mr Duffield—The US rules are very similar to the Australian rules in terms of requiring afund to distribute all income and capital gains. If you do not do that, you are penalised. Soeveryone distributes all income and capital gains. Unlike, say, some French vehicles which arewhat they call roll-up vehicles, you have to distribute all income and earnings. That is verymuch like how an Australian unit trust works. Each year, an Australian investor would get anincome and capital gains distribution statement from the managed fund and they would reportthat to the Australian Tax Office on their tax statement, and that would be just like an Australianfund.

CHAIR—Are there any tax consequences in the United States?

Mr Duffield—There would be no tax consequences other than a withholding tax, whichwould apply just as if somebody bought US shares directly. So there is a 15 per centwithholding tax between Australia and the US. If you bought IBM, you would pay 15 per centwithholding tax on dividends. The only other unfortunate tax consequence could potentially beUS estate tax. If you owned quite a large sum in US securities, there is a risk that the IRS wouldchase your estate for estate duties on your death, which I think is something the US is going tohave to change, but there is no sign of that at the present time.



CHAIR—So there are some real impediments, aren’t there, about investing through you intothe American market.

Mr Duffield—There are some impediments, yes. Those impediments do not apply tosuperannuation plans, or to corporations or trusts that invest, but potentially to a retail investorinvesting a substantial amount in a US fund, there is that one issue I would be concernedabout—estate tax.

CHAIR—It still can be positive, compared with comparable investment in Australia?

Mr Duffield—Yes; primarily because of the choice that an investor could get and the lowercost that are potentially available to them. People talk about this industry being verycompetitive here, but the world is a much more competitive place than Australia is, and havinga bit more competition in the Australian retail funds management industry would be a goodthing.

CHAIR—Wouldn’t Australian investors be better off going to Korea or Japan, rather than tothe US, because they might not have those same withholding tax provisions?

Mr Duffield—There is withholding tax in most countries around the world, but there is alegitimate argument that, if you are going to allow US mutual funds into the Australian market,it might be appropriate to allow other jurisdictions to offer their mutual funds—if they areappropriately regulated and if they are distributing trusts so that they have to basically distributeall income so that the Australian tax office can appropriately assess the tax.

Senator SHERRY—We have had briefings from the Australian, Sydney, as a world financialglobal centre. What is your realistic appraisal of our likelihood of success in this area?

Mr Duffield—If there is a willingness to address some of the issues that I have raised todayand that some other people have addressed and to really think through some of the implicationsof tax changes, I think we can really make Australia a terrific place to do business as a globalfinancial services centre. I am very optimistic about that: it is a great place to do business, theregulatory structure is good and the educated work force is good. It is a very low cost place todo business today, and an attractive place to live. What more can you ask for? We just have todo the kind of hard work associated with looking at the details. I often find that I think we are alittle under-resourced in terms of thinking through issues. We do not have enough dialoguebetween the business and the regulatory community, so that we often get unintendedconsequences of actions that are well intentioned but yet have quite potentially devastatingresults.

Senator SHERRY—On the regulatory regime, we have had some criticism of APRA andASIC from time to time: do you have any comments to make about those regulatory bodies?

Mr Duffield—I think they both do a very good job overall. Our comments would be in theminutiae, the details; but, overall, we are very happy with the structure of regulation. Themanaged investment act is a comprehensive piece of regulation which puts very strong



compliance requirements on managed funds. That is a good thing: we are all for integrity in thebusiness, and we think this business rides on trust. If you have a solid regulatory framework andyou build trust in your consumers over time, you can build a terrific business. One of the greatvirtues of the US industry is that the Investment Company Act came in 1940 and was amendedin 1972, but there have not been really any scandals of substance in the US industry for over 60years, and that has been a tremendous help in building a $6 trillion US industry.

Senator SHERRY—You have mentioned a range of quite legitimate taxation concerns, butsome countries go a step further with active financial incentives—although you could describesome tax changes as incentives. Ireland is probably a classic example, and my understanding ofthat is that it is driven significantly by European subsidies across budget. Would you advocatethat further step?

Mr Duffield—I think we actually do that under the OBU rules, as I understand them. I do notadvocate that step; I do not think it is necessary. Australia, with the new corporate tax rates thatwe are moving to, is an attractive enough place to do business on a fair and even up corporatetax rate. So I do not think that is necessary. If we just keep working on building the basics of thebusiness, we can do it without having tax incentives.

Senator CONROY—I was recently in the US and visiting a variety of companies.Unfortunately, I do not think your US parent was one of them. I came away at the end of the daywith the impression that in fact Singapore and Hong Kong are not likely to be our majorcompetitors in this field over the next 20 years but that India is probably going to be asignificant challenger for us. Do you get a sense of that as well?

Mr Duffield—India is potentially a significant challenger, particularly on the IT side of thebusiness.

Senator CONROY—India is phenomenal in IT.

Mr Duffield—It is producing graduates both in quantity and at very low cost. It has anightmare for a financial market set-up. We have spent six months trying to get registered inIndia to do business, but the bureaucracy just does not support it. If you are an IT basedcompany, yes, indeed, I think India will be a challenge to Australia, but we have manyadvantages still. Australia can be a winner in that regard. I would prefer to set up a Vanguarddevelopment centre for software and IT in Australia than anywhere else that I can think of.

Senator CONROY—Are we producing enough IT trained graduates? At the moment there isa world shortage obviously. We visited Silicon Valley—there are 9,500 Indian PhDs workingthere.

Mr Duffield—In that sense, I would say no. Vanguard itself has, I understand, 800 jobopenings in IT. We cannot find enough people in the US.

Senator CONROY—Clinton has just announced a relaxation of educational qualifications totry to attract people to come to the country in just the last few days.



Mr Duffield—That is a threat to Australia. We have to keep our skilled people here byencouraging US firms, or firms from wherever, to build centres here. We need to do that and tokeep increasing the strength of our educational institutions to be strong in IT.

Senator SHERRY—I see you employ 55 people. Does that number include theadministration IT staff? Is that done in-house at the present time?

Mr Duffield—We have a very small IT function at the moment, with another 55 people atPlum, many of whom are IT. We have used Australian based systems; we use a number ofoutsource providers as well. The real opportunity is to convince my US parent that we ought tohave an IT centre in Australia.

Senator SHERRY—Are you thinking about that at the present time?

Mr Duffield—I am going back to the US on Thursday with a proposal in my hand alongthose lines. I will see whether I can make much progress.

CHAIR—Do you use an Australian company at the moment?

Mr Duffield—Yes.

Senator CONROY—Who does your back office functions?

Mr Duffield—Australian companies or overseas owned Australian companies.

Senator CONROY—Do you have any call centres or anything like that?

Mr Duffield—Yes. Both Plum and Vanguard Australia have small call centres.

Senator SHERRY—Are they all located in Melbourne at the moment?

Mr Duffield—Yes.

Senator SHERRY—We will have to change that.

Senator CONROY—You could not fit any more call centres in Tasmania?

Senator SHERRY—Yes we could. One closed just across the road from my office.

Senator CONROY—There are wall to wall call centres in Tasmania. Brian Harradine has alot to answer for.

Senator SHERRY—It is a side issue, but there is an interesting debate in the United Statesabout retirement incomes and the future structure which is shifting.



Mr Duffield—The US system could learn some things from the Australian side. On the otherhand, there are very attractive incentives in the US to save for retirement, and Australia couldlearn a little from that.

Senator SHERRY—However you could not apply those incentives to 100 per cent of thepopulation in the US—you would go broke.

Senator CONROY—It is interesting. We basically used to have zero taxation onsuperannuation, and it just did not seem to work. You had virtually the most generous possibleincentive for superannuation, and it just was not a goer.

Senator SHERRY—It worked for 40 per cent of the population. Like in the US, I think, thatis about the figure for 401K. How you go the next step is the question.

Mr Duffield—The social security system provides a useful floor, but it is nowhere nearenough for most US residents’ retirement income needs.

CHAIR—I am just looking at your collective investment vehicle regime. Thank you verymuch, that is very welcome.

Mr Duffield—Thank you. I think the collective investment vehicle issue is the single mostpressing issue that you could make a contribution to, in relation to the global financial effort, byaddressing.

Senator CONROY—It is more definitional than anything else?

Mr Duffield—It is more definitional; that is correct.

CHAIR—And the discounts on capital gains tax are pretty discretionary?

Mr Duffield—That is right—by making sure that capital gains tax flows through just as ifyou would own direct shares. It is very important that we achieve that outcome. Thank you verymuch for your time and interest.

CHAIR—Safe travelling to the US.



[2.11 p.m.]

HOFVANDER, Mr Johan Bengt, Regional Manager, Asia-Pacific, Skandia Assurance andFinancial Services

LAIDLAW, Mr Ross Anthony, Country Manager, Australia, Skandia Assurance andFinancial Services

CHAIR—Thank you very much for your submission and for appearing before the committeetoday. You have already raised a number of issues that we have concerns about. The committeehas authorised your paper for publication so that it may be used as a public document. I inviteyou to make an opening statement. Any comments you make are protected by parliamentaryprivilege.

Mr Hofvander—Thank you very much. Perhaps I could start by introducing myself. Myname is Johan Hofvander. As you can hear from my dialect, I am not Australian but Swedish. Iam the Asia-Pacific Regional Manager for Skandia. I thought it would be helpful for you if Igave a very brief introduction to Skandia to put this into context, into a bigger picture, and thenwe could go into the more detailed side that our paper deals with as well, if that were all right.

Skandia is a Swedish company originally but today it is very much a worldwide financialservices company, mostly involved in pensions and long-term savings. Today Skandia is inmore than 20 countries— in almost 25 countries—around the world. The biggest countries arethe US, of course Sweden—the Swedish market—the UK and those in Central Europe. We alsohave an operation in Japan. We have just seen the latest figures from our first quarter. Ourpremium income has grown very rapidly in the past five years. It is actually only AXA that isbigger than Skandia today. We manage about $A190 billion and we are looking at a premiumincome of about $A40 billion this year.

Senator SHERRY—What about in Australia?

Mr Hofvander—We are not here yet. As for our presence from a Skandia perspective, weonly have an operation in Japan and now we are looking at setting up more companies in theAsia-Pacific region. This is fairly new. It has been three years in the making and we haveselected Australia because it has many features that we believe are interesting, looking at thisfrom far outside Australia. It had about $400 billion in super funds when we looked at it and itwas heading towards perhaps $1½ trillion or $2 trillion in a number of years time.

We have read the Wallis report and have been very encouraged by the Australian governmentthrough the Ambassador in Stockholm and through Austrade, who have been very helpful inproviding information about Australia, so we have a very good picture of the market. Mycolleague, Ross Laidlaw, and I have been in Australia for 1½ years doing all the marketresearch needed in order to set up a company. We think that Skandia could play an importantrole in this market because we come from a very global background.



We see that Australians tend to favour their own stock market more than the one per centworld market cap that it suggests, really. So that is where Skandia could really bring ourknowledge and our capability to this market. That is just a short introduction. I will leave it tomy colleague Ross Laidlaw to continue from there.

Mr Laidlaw—I am the country manager for Skandia, representing a foreign country. I havealso worked in the financial markets of London and the European continent. As you can hear, Iam an Australian and therefore certainly would like Australia to succeed in developing a trueglobal financial centre. When you look at a global financial centre, there are many areas: tradingactivity, the Australian dollar. Our comments are directed to the investment funds industry, towhere the global investment funds are. That is the perspective on which we are talking. It is inthat area that Australia could do more. We say that we have true global investment, that we havea number of international and global funds. Certainly we have many domestic equity funds. Ifyou look at the two largest capital markets in the world, the US and the European markets,Australians are actually given very little opportunity to invest purely in those markets, toactually invest in US equity funds or European funds. Therefore, I do not believe Australia canactually call itself a true global financial centre similar to London, to Dublin or to Luxembourgwithout actually giving that true global investment capability. I can give you the example of ourown Swedish company, Skandia Link. You are given all of the global opportunities to invest.We recently set up a China mainland fund, and this is under a number of different fundstructures.

So what do we see as the constraints on Australia becoming a true global financial centre?Certainly it was a very significant development when US mutual funds were given exemptionon FIF last June. The Australian financial market was applauded for that. Unfortunately, though,what has happened and what has been caught up in the Ralph taxation is that US mutualfunds—you have probably heard this all day—have not been given CIV status. A US mutualfund is very similar to an Australian domestic fund but, without them being given CIV status,capital gains that accrue within the funds will actually be taxed at the top rate, compared to anAustralian registered fund that would invest in the same securities, which would be taxed at halfthe rate.

CHAIR—If they were a CIV.

Mr Laidlaw—If they were a CIV.

CHAIR—But if they are not a CIV?

Mr Laidlaw—If they are not a CIV, they are getting taxed. The problem with that is that youare actually stopping many Australian investors investing with these excellent fund managersthat are in the US and investing in the world’s largest capital market. Some of the larger oneswill venture down here, but I would suggest many will not.

The other major issue we see is the foreign investment funds tax rule. Again, you haveprobably heard this: this is a very onerous tax. This is a tax which, other than now the US funds,is actually causing people who invest in foreign funds to bring to account unrealised gains,



whereas the Australian vehicle does not have to bring to account those unrealised gains. That isa very unfair treatment.

The third issue that we would raise is under the CIV—collective investment—relating to‘widely held’. You must have 300 investors to achieve what is seen as a CIV status. That makesit quite difficult for a young start-up company. We would certainly achieve that over timebecause we are actually working in the retail market.

Senator CONROY—What sort of time frame do you think you would need to grow to 300?Are you saying the number should be smaller or the time frame should be longer?

Mr Laidlaw—Should you really have a number, ‘widely held’? We are actually operating aretail operation, so we will have a number of investors, but we will have a number of differentpools of funds. You are actually talking about achieving that, as I understand it, in all of thosepools. At this point in time I think you are talking about 12 months. That may be difficult toachieve in that time frame.

We are operating a retail operation, so we will have a number of investors, but we will have anumber of different pools of funds. You are talking about achieving that in, as I understand it,all of those pools. At this point in time I think you are saying 12 months. That may be difficultto achieve in that time frame.

Mr Hofvander—Skandia might be natting off all our underlying clients. We buy as one as abulk, so Skandia would buy into one underlying vehicle. That underlying vehicle might need300 investors to make up for this CIV rule. That might be difficult for them because they wouldsee Skandia as one investor, although there are many underlying investors behind that. As Rosssaid, from our perspective we would most likely have the 300 underlying clients in each of thefunds. It is not really clear how that will be handled.

Senator SHERRY—There is just one issue I want to clarify. You talk about retailing. Wheredo you see your primary market focus as being when you start operations—retailing direct toindividual clients, consumers?

Mr Laidlaw—The Skandia model is such that we would market through an intermediary. Wewould market to the financial planning community.

Senator SHERRY—What about trustees of superannuation funds under the trust structurethat we have in this country?

Mr Hofvander—If they were interested in one of our funds—not the service or the softwaretools or the Internet technology, but just the pure investment—we could see them as a wholesaleinvestor and they could invest. We would not then give them any extra service. But our mainfocus is the retail market.



CHAIR—So you sell to the financial planners. What sorts of commissions do they chargeyou and how competitive are those commissions compared with around the world—the newtrials, commissions, initial commissions, review of the fund fees and those sorts of things?

Mr Laidlaw—They are not too dissimilar. We are working the UK and the US. In the US theup-front fees have been higher than in the Australian market, which you would expect to be theopposite. But the actual running costs of the fund are lower. In an Australian marketplace thetotal expense costs might be at two to 2½ per cent. Some are even at three. But in the US manywould be below two per cent, if not 1½ per cent. Commission wise we would be paying in theUS anything up to five per cent, in some cases higher than that, with also a small trail or back-end commission structure.

CHAIR—So in a sense the Australian market is quite favourable in terms of commissions.

Mr Laidlaw—The Australian marketing is tending to go more to the back-end. So it is a trailcommission. You are paying three to four per cent in this market and possibly getting now up tonearly a one per cent trail in some cases.

CHAIR—How does that affect your distribution costs in terms of your MER? Do youexclude that from your MER?

Mr Laidlaw—The up-front commission is excluded from the MER but not the trailcommission because that is usually part of the cost of the product. We have to wear that in ourtotal cost structure.

Mr Hofvander—One way of looking at that is looking at it backwards. We as Skandia knowroughly how much we need to keep in order to be profitable, given some sudden volumeassumptions. When we have that number we build in the trail and the other costs that we need inorder to handle the distribution side. Size is very important to be profitable. We do not have anysize in Australia but we do have size globally, which we can then use to get good rates fromfund managers, which are then passed on to the end consumer. The overall pricing is stillacceptable or good.

CHAIR—Are you talking about the entry costs to secure investment as equity, investments ina particular pooled investment trust or something like that? You are putting those fees back a bitbecause of your size.

Mr Hofvander—Yes, there are many different levels but one is that we have a certainbusiness model where we do not offer unlimited fund choice but we offer a well researchedmenu of both local fund managers and global fund managers. We have global agreements withmany of these fund managers. Therefore, of course, if we already have a couple of billioninvested with them, they will take that into account in terms of the service they give us and alsothat is reflected in the price as well.

Senator SHERRY—You mentioned you were involved in the UK market?



Mr Laidlaw—Yes.

Senator SHERRY—What was your experience in the pensions scandal and the mis-sellingscandal of the UK?

Mr Hofvander—It might be out of my field. I have worked for a Skandia Life company for afew months a long time ago. I think Skandia Life, which is the name of our company in the UK,escaped fairly unscathed from that scandal of mis-selling—at least, I have not heard anythingcoming back. I understood that there were a number of financial planners that had not given thecorrect advice and had been clearly mis-selling to the wrong people and things like that.

Senator SHERRY—I asked that question not to embarrass you but because we may be goingdown part of that pathway in Australia and it causes me and a number of my colleagues aconsiderable amount of concern as to what the structure will ultimately be with the selling ofpension and retirement products in a compulsory environment. Do you have any comment tomake about the issue?

Mr Laidlaw—A lot comes back to training and education. You asked how we distribute ourproducts. That is why we have gone through an intermediary. We service with a number of salestools and educational tools to ensure that the end investor actually understands what he isbuying. We do that through the financial planner. What is also attractive to Skandia is that it isdeveloping and becoming more professional in the Australian marketplace. The Australianfinancial planning industry is often held up as one of the most regarded in the world. It doesgive a full financial plan, so I think that has great merit.

Mr Hofvander—I have one comment to that as well. The best way is to keep the informationvery simple and very clear. My experiences from the Swedish market when they introduced theinvestment link pensions in 1988-89—and I was part of setting up that company—are that theauthorities there at first wanted to give twice the amount of information to the end client, bothfrom the underlying fund side and also from the insurance side. That would have meant that no-one would have understood anything. My humble advice on this is to keep it very simple: whatare the costs, when can you get out of the product, what implications are there? Keep it veryeasy and clear and then if you want extra information you can read the detailed prospectus.Those rules should be very easy to understand.

Senator SHERRY—I do not disagree with that, but my overwhelming concern is thatAustralia is almost unique to the Western world in that it has a compulsory private sectorsuperannuation—every employee has to belong. You draw into the market a whole range ofpeople that you do not have in the UK, the US or even in Sweden because predominantly yourpension system or retirement income system is still supported within a government structure—despite some of the recent reports, it is still very much based in that. Australia has carried out avery radical shift—in my view, for the good. This is one of the concerns I have as we movedown the track. I am interested in your overview of it. I am not trying to be unfair because Iknow you are not active in the market here.

Mr Laidlaw—The only problem, I think, also comes back to this training and education.Okay, we are catering for everyone at large, but it is important that we actually give people good



investment opportunities as well. If we are concerned about what may happen to their returns,we would put them all into these retirement savings accounts, which is really—

Senator SHERRY—We would not do that. Banks want to do it, that is why they want a sliceof the action, and they are a shocker.

Mr Laidlaw—Australians have really missed out on some very strong opportunities.

Senator SHERRY—Fortunately, not too many Australians are buying these RSAs at themoment.

Mr Laidlaw—Which is good, but I think it is important we have actually probably got a veryrisk averse profile in this market, and I know we have got to make sure it is regulated and all ofthose things, but we are only one per cent of the world’s capital, and there are enormousopportunities to invest in some of the leading companies outside of here.

Senator SHERRY—I understand that, and I totally agree with that. I do not have anargument about people actively choosing to invest in a menu, wherever it is: Australia,overseas, whatever. I have no philosophical argument about that. But I think it has got to be anactive decision to make the choice, because I think you are more likely to do that in an informedway than being forced to make it.

Mr Laidlaw—And I think it is a slow process. You cannot go from one choice, a defaultfund, to having 30 or 40; people would just shake their heads in disbelief.

CHAIR—In recent times, have you found the CIV rules too restrictive?

Mr Laidlaw—Certainly. It comes back to our earlier comments, that to really giveAustralians global opportunities the CIV regime and, as I mentioned, the FIF are restrictive.Maybe it is done to protect the local industry, but in our own situation Skandia would look touse our US mutual fund structure, but we are also coming here to set up customer service areas,IT, administration and marketing. We are looking to have 30 to 50 people over a three- to five-year time frame. By being more open in its investment through that CIV, Australia couldactually encourage more investment and actually, as has happened in Ireland, increase the levelof employment. Ireland is an excellent situation to study.

Senator CONROY—You get the EU to give us their level of subsidies, we will be in it.

Mr Laidlaw—But I have actually set up a structure in Ireland, and I know people say it istax, but it is not only tax. Ireland has the same tax rules as Luxembourg, the same as Jersey andGuernsey in the Channel Islands. You have got to look beyond the tax. In Ireland, they workcohesively together. We went there, we had three days, we met with the central bank, which isthe regulator, we met with all the service providers, the different government bodies. We canachieve that in Australia too. In that coordinated visit, within three days we had seen everything.The other great benefits they have, which we have, is the level of service, a can-do attitude toreally wanting to help you, low labour costs and quality staff, a very high level of education,



and they have carved out a niche. They have actually carved out the back office administration.There are a couple of fund managers that sit in Ireland, but most of them are in London, Paris,or what have you. They have carved out a very nice position for themselves, and you were justhooked in. Certainly they have got the geographical location, but in Australia we could certainlydo that throughout the Asian region.

Senator SHERRY—You mentioned what is almost like a one-stop shop coordination. Howdoes that compare to your experiences in Australia since you have been here? You come toAustralia: how did you start? Did you have to then literally do a plod around all of theregulators?

Mr Hofvander—I must praise Australia on this issue, because I have worked in a number ofdifferent countries, not always at a government level, and I was impressed, I must say, with theAustralian attitude and information from different bodies, and also keeping this together, so itwas a little bit like the example that Ross said about Ireland. We did meet with Austrade andthey did help us set up a number of meetings. We did meet with the ambassador in Stockholmand we did get a lot of help on the ground, from both the New South Wales government and theVictorian government. We have had some excellent discussions with the authorities in terms oflegislative issues and the willingness to discuss. Also our being here today I think is proofenough that these matters are taken seriously and, from our perspective, are very coordinated. Iam certainly very grateful for that, and I think it is very helpful for your endeavours in makingAustralia a true financial centre for the region.

Senator SHERRY—How could we improve it though? You do not have to be courteous forour benefit.

Mr Hofvander—This is really my honest opinion.

Senator SHERRY—I accept that. But if there is an sort of wall, let us know.

Mr Laidlaw—Unfortunately, Dublin is Dublin; there is no Melbourne-Sydney issue. I am aMelburnian but I am living in Sydney, so you automatically get a Melbourne-Sydney issue, andthat is competitive and it is healthy. But I think the global financial centre could play a role.They have an IFSC in Ireland. It is the ambassador and it takes these different companies thatare looking at Australia to the point—I am not sure it is happening here—of actually meetingthe regulators as well. That was very impressive because it was the central bank. We weresitting there and they said, ‘We can achieve this. We will get the thing up and running in eightweeks.’ I think it is important to have that service attitude, and they are seeing it from theregulator right through.

Senator CONROY—Have you met Les Hosking yet and had a chat with him?

Mr Laidlaw—I have not personally met with him. I was at a presentation that he gave lastweek.



Mr Hofvander—On that issue, from my understanding, not being an Australian, thedirection that Australia is heading is very clear in terms of becoming this global financial centre.As we put it in our letter, I think some of the ambitions that parts of the government have arenot followed up from the taxation issue. I guess that is one of the reasons we are here today: topoint that out. We are caught a little bit in the middle because we are trying to set up a companyon the ground in Australia while certainly leveraging off what we have in other parts of theworld, because we see that there is a demand for those services, that people are interested toinvest offshore if they can do it in a responsible, informed way. We find that difficult with thecurrent taxation regulation that actually favours fund managers that are based here in that sense.I think that is our most important point.

CHAIR—A superannuation fund has less tax and regulatory problems in the US than anindividual investor has, doesn’t it?

Mr Laidlaw—Yes. We have what is called a variable annuity product in the US. There is notax, as I understand, on the way in—no tax within the product—but there is tax on the way out.

CHAIR—So when it is distributed to Australia.

Mr Laidlaw—Sorry?

CHAIR—And when the dividend is distributed to Australia?

Mr Hofvander—Oh, you were talking from an Australian investor’s perspective.

Mr Laidlaw—Then we would actually be investing into a US mutual fund, not theirsuperannuation product but their short-term investment product. That is exactly the same as ourAustralian unit trust. It is a passing-through vehicle. The distributions are paid to the Americanresidents as they would be to an Australian resident. So it is a very similar vehicle.

Mr Hofvander—In our case, that would be paid out to Skandia and then we would have thesuperannuation regulation from our Australian company base. So we would just move theinvestment sides into the vehicle that the client has chosen. Then it is moved to Australia andeverything is handled according to the superannuation rules and regulations or, if it is a non-super product, those rules and regulations.

Mr Laidlaw—There is no deferment of tax. Once it has passed through, it then has to bebrought to account in investors’ tax returns.

CHAIR—Thank you very much, Mr Laidlaw and Mr Hofvander.

Mr Laidlaw—Thank you very much for the opportunity. We very much appreciate that.

Mr Hofvander—Thank you very much.



CHAIR— Committee members, we received a statement from Skandia. I ask that weincorporate the statement into the Hansard. Is it the wish of the committee that the document beincorporated in the transcript of evidence? There being no objection, it is so ordered.

The document read as follows—



Proceedings suspended from 2.40 p.m. to 3.06 p.m.



WEBSTER, Mr Robert James, Executive Director, International Banks and SecuritiesAssociation of Australia

CHAIR—Mr Webster, I welcome you as a representative from the International Banks andSecurities Association of Australia. Thank you very much for your submission. It is certainlyvery direct—no waste of words—and we appreciate that. Perhaps you would like to speak toyour submission and also at the same time make an opening statement. Have you any otherexhibits you would like to table?

Mr Webster—Thank you. I have for the three senators and the committee copies of the IBSAannual report which gives you an idea of what our organisation is. We are an industryassociation representing the investment banks in Australia. At the present time we have 44members. Most of them are foreign banks. There are a couple of Australian investment banks inthere. If you open the annual report you will find our membership list inside the front cover.You can see it is pretty much a who’s who of investment banking in Australia. There are not toomany gaps there.

My role with the association is as their executive director. Our principal aim is to representour members to government and to the community, to lobby on their behalf on issues that affectthem—principally tax and regulatory issues. We have had a very significant role in the Wallisreport, in taxation reform and the review of business tax. It is a role where, I am happy to say,government ministers of both sides of politics—and, indeed, bureaucrats—have been willing tolisten to the arguments that we have put, which are essentially to improve the competitiveposition of our members in Australia. Our members range from very small banks that may haveas few as 15 employees and are principally merchant banks right through to full service bankssuch as Macquarie Bank, Deutsche Bank and, of course, the large American investment banksthat are almost entirely represented here in Australia, with the exception of Lehman Brothers.They are the only American investment bank that is not here.

My view for what it is worth is that the deregulation of the financial sector, which wascommenced under the Fraser government, implemented by the Hawke and Keatinggovernments and further implemented under the Howard government, has led to a pretty muchfree market situation in Australia where my members are able to compete, albeit with someconstraints, and where the Australian consumer has benefited enormously from the deregulationof banking. Even though the deregulation of banking at the retail level that was envisaged bythe former Treasurer and Prime Minister Keating did not eventuate, what did occur, however,was that the overseas investment banks came to Australia. They basically operate at a wholesalelevel but they have been almost exclusively my members—and I include Macquarie Bank inthis—who have been almost exclusively responsible for the raising of funds for the securitisedhome lending market. That competition that has been provided by the securitised home lendingmarket has in fact, in our view, driven down home loan interest rates in Australia by at least twoper cent. You can effectively thank the deregulation of banking and the presence of the foreign



and investment banks in the home lending market for that tremendous benefit that has flowedon to the Australian consumer.

CHAIR—So Aussie Home Loans source from you, do they?

Mr Webster—That is correct. Aussie Home Loans, Wizard, et cetera, are all financed byfunds raised by my members, principally offshore. Of course, it was commenced by theprevious Labor government but implemented by this government that has, in fact, changed the128F withholding tax provisions to enable those funds to be raised overseas withholding taxfree. It has been a tremendous benefit to Australian consumers.

CHAIR—You have not widely broadcast that message, have you?

Mr Webster—I think we have broadcast it in the areas that count. You have to remember thatmy members are not very visible in the retail markets. Some of my members have retailretirement products and they advertise on television so some people are familiar with MacquarieBank. Merrill Lynch and Rothschilds, et cetera, do some advertising, but principally ourmembers are in the wholesale markets.

CHAIR—Why is there a reluctance to move into retail markets in Australia?

Mr Webster—The market is too small and the established banks are too strong. That wasproven when Paul Keating tried to make it happen, and it did happen for a short time but theyjust could not compete.

Senator SHERRY—It certainly led to a lot more competitive market in the wholesale areas.

Mr Webster—Yes, much more. If you look at the tables, and we have not included them inthat submission, our members are at the top or near the top of all the tables that are published inthe bond and equities markets and so on. Practically all the large stockbroking firms in Australiaare now owned by my member banks, the exception being J.B. Were and Ord Minnett.Otherwise, all the large stockbroking firms are now owned by foreign investment banks.Macquarie Bank is obviously a big stockbroker as well. That reflects the global nature of themarkets.

CHAIR—Tolhurst?

Mr Webster—No, but they are not in the top 15 brokers, I would not have thought. Theywould be in the top ten. That gives you a bit of an outline of what our association does and whatour members do. I have tried to put there in dot point form what I see as the strengths andweaknesses of the aspiration for Australia to be a financial centre. I have also said what needs tobe done to give us the best opportunity. We are never going to be a London or a New York, butwe do have the opportunity to take over a good deal of the role that has been played by HongKong and Singapore in recent times.



CHAIR—We will concentrate on those problems then and how we can move into thoseareas. I notice your dot point 5 has quite an extensive list of Australia’s disadvantages.

Mr Webster—It has indeed. It is all listed there and I am happy to try to elaborate if I can.

CHAIR—Yes, maybe you could for the purposes of the Hansard record because there arelots of vested interests who say how good it is, but we are interested in how it can be improved.

Mr Webster—What we have tried to do in all of our submissions to Wallis, to thegovernment on tax reform and to the reform of business tax—the Ralph committee—is toemphasise the fact that we need to be competitive in tax. That does not mean that we can comedown to Hong Kong levels of company tax but it means that in the areas of taxation thatparticularly affect foreign owned entities, which most of my members are, that we need to bemindful in any changes that take place not to disadvantage them. If you disadvantage them thenyou put them in an uncompetitive position with the big Australian banks which obviously donot only operate in the retail markets but also operate in the wholesale markets as well. You juststrengthen their position. Tax is not the biggest issue but it is a major issue in them decidingwhether they will move some of their offshore operations to Australia. There is talk, forexample, of some banks moving their foreign exchange dealing operations from Asia toAustralia. That will be very much influenced by what the government’s final position is on tax.

CHAIR—You say ‘its final position’? Are you still negotiating? In what areas?

Mr Webster—We are still negotiating on the GST. That has been a lot of fun. We areobviously awaiting their final decision on Ralph.

Senator CONROY—That is option 2?

CHAIR—Are you in favour of option 2 coming in immediately or in 12 months to twoyears?

Mr Webster—I do not think they can do anything else immediately.

CHAIR—There is too much on the table.

Mr Webster—Well, there is a lot of reform out there. There is a lot of change. I do not thinkthe federal bureaucracy could cope with any more at this point but certainly in the near future.The sooner the better. It is fair to say that Treasury has always taken a purist position on all ofthese things. Whilst I do not necessarily believe in governments trying to pick winners, I think itis important for governments to identify the areas where there are real strengths and realcompetitive advantages in the Australian economy and to play to those strengths. We are notasking for any favours. All we are asking essentially is for my members in their various roles asinvestment banks, merchant banks, funds managers and stockbrokers to be given a fair go in theAustralian environment.



In some of the issues that have come to mind on the GST, they are likely to have to pay GSTon charges that they have to remit to their head offices overseas, and that is going to place themat a serious disadvantage to the Australian banks. We have pointed that out to government, andwe are awaiting their decision. It will obviously have an impact on their profitability and ontheir potential to relocate more functions here and hence create more employment here. I haveno doubt that the success of the financial services sector, particularly in Sydney, has lead to thecontinuing growth of Sydney as a business capital and, for example, to the expansion of thecommercial property market in the city of Sydney. Twelve months ago, we had an oversupply ofoffice space in Sydney. Now there is an undersupply. I can assure you that it has not been takenup by manufacturers, farmers or miners. It has been taken up by people who service the broaderfinancial services sector—not just in investment banking but in retail banking, insurance, fundsmanagement and so on. They are the legal firms, the accounting firms, the headhunting firms—you name it. It is a huge generator of employment. You have only to look at Singapore to workthat out. Why have they chased it so hard? It is basically their major industry.

CHAIR—Where have your negotiations been in terms of creating this ‘can do’ image to get acompetitive tax climate? Has it been solely focused on the tax office or Treasury, or have youtaken it further?

Mr Webster—My experience in government has taught me that you start at both ends ingovernment. You start with the bureaucracy, because they are the people who advise ministers,but you have to start with the ministers as well. I work both ends. Obviously, the tax office andTreasury are very important.

CHAIR—Both are interested in maintaining the revenue, though, aren’t they?

Mr Webster—It is the old story, though, of how much revenue might you lose as opposed tohow much revenue you might gain by doing certain things.

CHAIR—That is not always their focus, is it?

Mr Webster—No, that is why it is my role to try to point that out to them. You are right.They tend to be more worried about the cents they will lose than the dollars they might gain.They are more tangible. That is why we have politicians and the country is not run bybureaucrats.

CHAIR—You said:

The offshore banking regime (OBU) is neither easy to administer or understand.

Of course, there have been quite substantive changes and some of the Chinese Walls have beenbrought down, but there is still a problem in relation to the so-called 10 per cent. Would you liketo comment on that?

Mr Webster—Yes, I am not an expert on the OBU regime. I was hoping to bring my directorof policy with me this afternoon, but he is actually in Canberra lobbying Treasury and tax officebureaucrats. We would be happy to give you more information on that if you would like us to.



CHAIR—Yes, we would like you to take that on notice. You also said:

The Review of Business Taxation reforms for foreign banks and international financial transactions are uncertain andpotentially quite harmful.

Are you just restricting your comments to option 2, or have you other matters in mind? If so,what are they?

Mr Webster—We are concerned about the thin capitalisation implications of what Ralph hasput up. I will send you a copy of the submission we made to government on the Ralph report,which will give it to you in more detail. We are also concerned that Ralph’s inclusion of foreigninvestment funds may exclude the foreign investment funds that are now coming to Australia toinvest, because they are going to have to be treated under the CIV regime which he hasproposed. It may in fact drive them out.

CHAIR—Do they fit easily into that regime?

Mr Webster—No, they do not. They may have to be fitted in or they will not come and theywill not stay.

CHAIR—Have you had discussions with ISFA?

Mr Webster—Yes, we have had discussions with everyone.

CHAIR—How do you stand in relation to their position? The government basically followedtheir line of collective investments.

Mr Webster—In the majority they tend to represent Australian funds managers. It is a bitlike the Australian Bankers Association, which represents Australian banks. Naturally, they willtry to protect the position of their members, but if you want to get true competition thenobviously you have to try to have a level playing field for the foreign players as well.

CHAIR—And other Australian companies do not fit within that particular regime, like yourLICs.

Mr Webster—I will send you a copy of our submission on the Ralph review.

CHAIR—That would be great. Thank you. APRA levy arrangements are a contentious issuein Australia. I am interested to see that they are also a problem for you. Would you like tocomment? The smaller funds feel that they pay disproportionately too high a levy comparedwith the very large funds.

Mr Webster—I think the APRA levy has been skewed against the smaller deposit takinginstitutions, and I include my members amongst those. Even though they are large, they are notas large as the big Australian banks. The fact that the legislation capped the levy at $1 millionwas unfortunate because it means that the Australian banks cannot pay more than $1 million. Inorder for APRA to raise the money it requires the foreign banks—



CHAIR—To go down the line.

Mr Webster—The foreign banks and the smaller Australian regional banks have had to beratcheted up.

CHAIR—And super funds?

Mr Webster—They are in a different category. I am looking at the deposit taking institutions,which are principally the banks, building societies and credit unions. The credit unions andbuilding societies have been treated a little differently because they are probably slightly morepolitically sensitive, but the regional banks and the foreign banks have been asked to paydisproportionately more—more than they should.

Senator SHERRY—The cap redistributes down to the smaller institutions.

Mr Webster—Correct. There are X dollars allocated to the DTIs, and it is on so many basispoints according to the amount of capital they have but with a limit of $1 million. Westpac,NAB, Commonwealth and ANZ all go to $1 million and stop. A couple of my members, likeMacquarie and Deutsche Bank, get to $1 million, but of course the other big banks have gotmuch more capital.

Senator SHERRY—Do you know if that is a regulation?

Mr Webster—No, it is part of legislation. We have lobbied to have the legislation amendedbut I think at the moment the government is not inclined to amend any more bankinglegislation. We have had the levy arrangements amended for our members so that the latestpaper that has come out is certainly fairer than the one before, but the cap remains.

Senator SHERRY—I am just wondering how they can have a levy that is variable, that isnot a regulation.

Mr Webster—I think the levy is a regulation but the cap is legislated.

Senator SHERRY—Okay.

Mr Webster—The legislation says no-one will pay more than one million, which apparentlyis normal in legislation.

Senator SHERRY—Yes.

Mr Webster—When they set it at a million, they did not think they would need it to behigher. But for it to be truly fair it needed to be higher. We have accepted the fact that it is goingto be reviewed in a year or two and, if necessary, it will be amended then. But the big bankshave got off lightly on the APRA levy—I think that is a fair conclusion. Most banks havebenefited, in fact, from the abolition of non-callable deposits, which the APRA levy haseffectively been substituted for.



Senator SHERRY—You have given us a good overview of the various issues, particularlythe tax issues. Senator Watson raised the levy issue, and I notice you have even got theMedicare levy surcharge listed there. Could you give us a fiscal assessment of these issues? Imean not just on Treasury’s argument of cost to budget but also on the upside: what you wouldargue would be the gains and what you would qualify—and I know it is hard to do—as some ofthe gains that you would see to the nation if these sorts of issues were addressed.

Mr Webster—Sure. My members are loathe to give us too much sensitive information oftheir own. They do share it with government on a one-to-one basis at times confidentially. Isuppose that tax wise we see the reverse charging issue, the GST on reverse charges, as being amajor cost to my members which the Australian banks will not have to pay. My larger memberbanks tell me it is going to cost them some millions—up to $10 million—which some may sayin the overall scheme of things is not a huge amount of money, but what it will not do is providethem with an incentive to do more business here. In fact, it may provide them with an incentiveto do less, which is what this whole financial centre thing is all about. So I am not wanting tooverplay the fact that it is going to send Citibank broke or something: we all know that is nottrue. But what it will do is this: if Citibank are contemplating bringing some major section oftheir business from Hong Kong to Sydney, then there is the fact that they have to pay a GST onthe salaries that they pay to their expatriate employees. Expatriates are paid from head office inNew York. The Australian subsidiary or branch has to remit the amount that the employees arepaid back to New York as part of their cost of operations. They have to pay GST on that. That iseffectively a GST on salaries.

Senator SHERRY—Or they are treated as subcontractors?

Mr Webster—Under the GST regulations—and they may well be changed; I have not givenup on this but we are getting very close to the witching hour—they are regarded as part of thelegitimate GST regime. That includes any costs that they have to remit to New York orwherever. Ditto with employee shares schemes. A lot of the foreign banks obviously pay theiremployees in stock. Those costs have to be reversed offshore and, at the moment, they will haveto pay GST on those as well. You can argue that in the overall scheme of things it may be asmall amount, but what it is not going to do is give them a huge incentive to move more peopleout here if they are going to have to pay those charges. That is the argument we have put togovernment, and we shall see. I think Treasury has made up its mind on it so it is really going tobe up to the Treasurer and others to change.

CHAIR—Could you tell me what happened to Citibank’s world gold trading operation,which was transferred to Australia? There was the threat that it may have to be moved offshore.Has that happened? Are they still waiting for a government decision on that?

Mr Webster—No. As far as I know it is still here, but I would not be sure of that.

CHAIR—Thank you. Senator Conroy, do you have any questions—provided you do notmention Benalla?



Senator CONROY—Then I am out of questions! Actually, I do not have any questions. Ithink it is a very straightforward summary of the pluses and minuses. It is a good,comprehensive submission.

Senator SHERRY—I have one issue: on the concept of the world financial centre in Sydney,do you see any spin-offs for regional Australia—and I will not mention Benalla?

Senator CONROY—He wants them all in Tasmania.

Senator SHERRY—I do. It is important in the context of the whole country being connectedto this sort of initiative. I am a realist—obviously Sydney is the centre, and I understand thereasons for that. But do you see any potential for some elements of the business operations to belocated outside of Sydney?

Mr Webster—Yes, I do. You only have to see what Westpac have done with their processingcentre in Adelaide. The only reason you would locate it in Sydney, Melbourne or any of thelarger capitals is because the human resources that you need are not in other areas. As we allknow, from a cost perspective, once you have the infrastructure in you can put these thingsanywhere, provided you can find enough people with the right training and so on to run them.As we know, operations in regional cities and towns quite often have a much better productivityrecord, they keep their staff longer and they have less industrial relations problems—althoughthat is not a problem so much anymore—than they do in Sydney. Call centres are a classicexample of that, and you have plenty of those in Tasmania.

Senator CONROY—I am glad you mentioned that. Wall-to-wall call centres.

Senator SHERRY—We could do with some more.

Mr Webster—Yes, absolutely. But, as you know, head offices are where the business is done,and this is what has happened to Melbourne. Melbourne was a separate financial centre toSydney completely, with its own stock exchange, et cetera. But modern communications haveenabled people to centralise their operations to save money. All of a sudden in the last decade,Sydney became the financial capital of Australia. My organisation used to be known as AMBA,the Australian Merchant Bankers Association, and we were based in Melbourne. When we werefirst established, a majority of our members had their head offices in Melbourne. Of my 44 or45 members today, two have their head offices in Melbourne, one has it in Adelaide and the restare in Sydney. It is just an extraordinary convergence—which does not at all mean thatMelbourne is not doing a huge amount of business, and most of my members have offices thereand so on. It is just that Sydney has become ‘the place’, as London is and New York is. But I amsure there is plenty of opportunity to spin these things out. It depends on the sort of thing youare looking at. We have approached this on two fronts. There is the back office type activity—which is very much down the track that you are talking—and then there is the front officeactivity. There tends to have been, in recent times, a greater concentration on the back office.You have the examples of American Express having their Asian call centre here and dataprocessing for some of the big banks. I think Citibank is looking at something like that at themoment, which could mean hundreds of jobs. But the real business is the front office stuff, andsometimes that does not involve very many people.



That is why we made a submission to Ralph on expatriate tax. What happens under thepresent tax treaties and the present regime in Australia is if you have a guy who could beearning $3 million a year doing foreign exchange in Hong Kong and he has substantialinvestments and assets in other countries, and if you move him up to Sydney you might be ableto subsidise his salary enough so he does not lose out on Australian income tax and he is happyto pay Australian income tax, but he then pays income tax on all of his world-wide investmentsin Australia. Then he has to seek to have the taxes paid in England or wherever, rebated to him.In one instance a friend of mine explained to me that he ended up paying 100 per cent of hisincome in tax before he got the tax rebated to him and it took almost a year. If these big bankswant to move these very clever people—and there could be only 100 of them, but they bring awhole business with them to Sydney—they will just say, ‘No, I’m not moving.’

Senator CONROY—I was lucky enough recently to have breakfast with the head ofCitibank. He was more concerned with his business costs and business operation than what thepersonal tax arrangements are of his staff in Hong Kong if he wants to move here.

Mr Webster—Yes, but when he goes to try to make them move they might not move. We tryto identify the practical situation. Another one of our members who works for a German bankhad health insurance with one of the world’s largest insurance companies. But that insurancecompany does not have a health insurance business in Australia. When he went to pay his tax hewas forced to pay the Medicare surcharge plus a further fee for not having done it before orwhatever because the fund he was with was not accredited.

CHAIR—A lot of people got caught in that.

Mr Webster—You would be absolutely amazed how difficult it is to persuade the tax officethat they should accredit the world’s second largest health insurer.

Senator CONROY—Those are administrative things rather than structure. The concern Ihave—and I had this discussion earlier today with others—is that if you do not have thetaxation regime the way it is, no-one will end up getting paid any Australian dollars; it will allbe in off-shore earnings. It is possible to salary package yourself out of almost anything inAustralia. That sort of tax avoidance the country cannot afford.

Mr Webster—I know, but it is a case of a bird in the hand is worth two in the bush. If youhave not got the business here and if you have not got the expatriate I referred to who is beingpaid some mega amount of money here in the first place, you are not losing it. The trick is to beable to identify those people who are a key element in that bank’s operations and not necessarilytreating them as a special case, but changing the tax arrangement so that he can be paid inAustralian dollars but so that he can get his offshore income rebated quickly.

Senator CONROY—That is the way to get it fixed—to have a system that can get thatrebate within a month or two.

Mr Webster—If you do not do that, those little things are the things that put people off. Atone stage our members were paying the Medicare levy through their income tax but they werenot eligible for Medicare and this sort of thing.



Senator SHERRY—I can understand why. Those things, particularly if you come into thecountry, would really niggle at you personally. There was a dispute about repatriation ofsuperannuation guarantee, for example.

Mr Webster—Correct, another one. The employees had to pay the superannuation guaranteelevy, or compulsory superannuation, and then when they left the country they could not take itwith them.

Senator SHERRY—They could not transfer it out.

Mr Webster—We have had some of those things resolved but this latest GST on expatriatesalaries is going to be a problem. I have told my good friend the Treasurer, so I am hoping thathe will address it in his usual sympathetic manner.

CHAIR—Are there any further questions? Maybe the Treasurer would like us to finish onthat note. That concludes the committee’s proceedings. On behalf of the committee I thank allthe witnesses who have given evidence for their participation. Thank you very much, MrWebster, for your concise and very forthright presentation. I wish you well in your negotiationswith the Treasurer.

Committee adjourned at 3.40 p.m.

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