Last month Hong Kong Monetary Authority chief executive Joseph Yam Chi-kwong spoke up in defence of the city's regulatory regime, saying the system was in no need of 'major surgery'. He was wrong. A look back over the list of scandals, fiascos and failures from the last year should be enough to persuade anyone that our regulatory bodies badly need a life-saving operation if Hong Kong is to retain its credibility as an international financial centre. Top of the list is the Lehman minibond saga. While our regulators sat back and did nothing, the city's banks sold thousands of ordinary depositors billions of Hong Kong dollars' worth of wildly complex structured products tied to high-risk credit derivatives written by Lehman Brothers. As a result, when Lehman went bust, many customers who thought they were investing in a product scarcely more risky than a time deposit at their usual bank found their savings wiped out. The minibond affair is by far the most prominent of Hong Kong's recent regulatory lapses, but it is by no means the only one. Last year saw a string of failures by listed companies - led by Citic Pacific - to disclose price-sensitive information promptly to the stock exchange. Then last month the frontline regulator for listed companies - Hong Kong Exchanges and Clearing - cravenly backed down in the face of opposition from a clutch of powerful tycoons, delaying the introduction of a new rule forbidding directors from dealing in a company's shares for the whole of the interval between the end of its reporting period and the subsequent results announcement. Effectively, the U-turn gave directors the green light to trade on inside information ahead of the coming reporting season. And finally we had the failure of the Securities and Futures Commission to block yesterday's shareholder vote on the proposed buyout of PCCW, despite allegations that an attempt had been made to rig the outcome. Seen together, these shortfalls present a picture of a badly flawed regulatory regime that has consistently failed to protect investors' interests. A thorough overhaul is clearly needed. To be fair, in the face of investors' anger, the government has responded to the minibonds fiasco. Last month it published recommendations from both the HKMA and the SFC for new rules intended to prevent the future mis-selling of complex structured products. But for the most part, the proposals simply tinker at the periphery of the problem. They might stop a repeat of the minibond affair, but what is needed is a root and branch remodelling of Hong Kong's regulators, designed not to avert the last scandal but to establish the city's financial centre on more solid foundations so that it can emerge from the present crisis with its reputation enhanced. That means going back to first principles and reminding ourselves what regulation is for. In general terms, regulation has two purposes. Firstly it must safeguard the integrity of the overall financial system in order to support the health of the broader economy. Secondly, it must protect the interests of ordinary investors. In the past, regulation been divided up between different authorities according to specific areas of responsibility. So in Hong Kong, the HKMA is responsible for banking supervision, and the SFC is tasked with overseeing the securities business (while the stock exchange is supposed to police the behaviour of listed companies). It should be obvious that these divisions don't work. In Hong Kong the distinction between banking and securities regulation led to a situation where neither the HKMA nor the SFC adequately oversaw bank sales of securities like minibonds. In the US and Britain, the consequences were far worse. There the division of labour between central bank banking supervisors and independent securities regulators meant that neither took proper responsibility for managing the risk posed to the banking system by securities dealing. As they discovered to their cost, in today's interconnected financial industry, the ultimate regulator must always be the lender of last resort: the institution that has to step in with the cash to support a stricken business in a crisis. That means the central bank; in Hong Kong's case, the HKMA. If the businesses it might have to support deal in securities, then it stands to reason the monetary authority should be responsible for securities regulation as well as banking supervision. In theory, if the HKMA were responsible for overseeing systemic risk across the board, it would be possible to have a second regulator tasked with policing professional conduct to ensure investor protection. But that would be overly complicated. Once again, there would be the danger that malpractice would flourish in the cracks between the organisations. As a result, the optimum solution for Hong Kong would be to set up a single over-arching regulator within a strongly independent HKMA bearing statutory responsibility both for preserving financial system stability and for safeguarding investors' interests across the full range of financial products. And it should be given the necessary teeth to exercise its mandate. Establishing such a powerful single regulator would indeed require drastic surgery. But the current division of responsibilities is unhealthy. A major operation is now needed to restore Hong Kong's financial credibility.