Reshaping the supervisory role in the financial sector The case of the UK Charles Taylor – Chief Operating Officer 25 January 2011 icffr.org.

Reshaping the supervisory role in the financial sector

The case of the UK

Charles Taylor – Chief Operating Officer

25 January 2011

icffr.org

The regulatory cycle

Phase 1crisis management and stabilisation

Phase 2 “grand plan” emerges. G20 international cooperation, the Financial Stability Board. Turner / De Larosiere reports. Economies begin to steady

Phase 3 detailed legislative proposals tabled, economies start to recover, the tension between international ideals and domestic imperatives become more apparent. Industry pushback becomes more manifest

Phase 4detail of legislative proposals is tested. Industry pushback grows, political commitment wanes. G20 falters / reassesses. Long implementation phase begins. Regulatory capture

Thirty years of the Basel process

Source: BIS December 2010

01-2019Full

implement’n of Basel III

12-2009Basel III

consultative document

issued

07-2009Revised

securitisation & trading

book rules

06-2004Basel II issued

12-1996Market risk amendment

issued

07-1988Basel I issued

01-2013Implement’n

of Basel III begins

12-2011Basel III

consultative document

issued

12-2007Revised

securitisation & trading

book rules

12-2006Basel II issued

12-1997Market risk amendment

issued

07-1992Basel I issued

11-2010G20 endorsement of Basel III

1990 2000 2010 2020

Protracted implementation timeline

Existing –vs– new paradigmsExisting paradigm New paradigm

Monetary policy focused narrowly on price inflation

Monetary policy focused on price inflation, but leaning against financial imbalances

Microprudential policy focused on individual banks

Microprudential policy married with macroprudential focus on systemic risk

Reliance on internal risk management, self-regulation and market discipline

Higher bank capital, better governance, and expanded perimeter of regulation

Fiscal policy does not incorporate financial stability concerns

Countercyclical fiscal policy (fiscal buffers)

Domestic focus More global coordinationSource: H Hannoun, BCBS, March 2010

The international regulatory structure

Source: CMS Cameron McKenna

ESRB European

Systemic Risk Board

EU LegislatorsCouncil of MinistersEuropean ParliamentEuropean Commission ESFS

European System of Financial SupervisionEBA Banking (London)

EIOPA Insurance and Occupational Pensions (Frankfurt)

ESMA Securities and Markets (Paris)

G20

BCBS, IOSCO, IAIS, IASBInternational standards bodies and

regulatory forums

FSBFinancial Stability Board

Working with IMF / OECD

Co-ordination

Reports on systemic risk

Provides data from firm supervision

The new UK regulatory structure

Source: CMS Cameron McKenna

GovernmentHM Treasury

Bank of England

PRA: Prudential Regulatory AuthorityJudgement based prudential and financial supervision

CPMA: Consumer

Protection & markets

Authority

FPC: Financial Policy Committee

Macroprudential tools

MPC: Monetary Policy Committee

Banks & building societies Investment banks Insurers & other

financial institutions

Insurance, mortgage and investment intermediaries

Represents UK at EBA, EIOPA and ESRB Represents UK at ESMA

Normal and emergency liquidity provision to banks

Prudential and COB supervision

COB supervision

The new UK regulatory philosophy

Source: ICFR

The majority of policy will be formulated at the EU level• Regulation now more proactive, outcomes based approach, with

focus on forward looking firm based judgement• a key element is that orderly business failure with minimum cost

should not be seen as a regulatory failure• The Prudential Regulation Authority (PRA) will work closely with

the Financial Policy Committee (FPC) to assess systemic risks• The new Consumer Protection Markets Authority (CPMA) to be the

“consumer champion” • The CPMA will aim to balance rules vs. principles in the pursuit of

“deterrence and redress” • Transition to the new structure is planned to occur in the second

half of 2012

Role of the PRA

• PRA will be a focused prudential regulator, equipped with the philosophy, systems and skills to deliver a single statutory objective

• PRA will promote the stable and prudent operation of the financial system through the regulation of individual financial firms with the aim of minimizing the disruption caused should they fail

• PRA will use ”judgement” and risk models to determine potential level of impact and hence engagement

Assessing impact to define approachFirms will be analysed and categorised as low, medium or high impact firms in terms of the impact on the economy of their failureSupervision of low-impact firms • Centre on resolvability• Monitoring of compliance with rules and reacting to any issues that may

arise• Basically an extension of the FSA’s current regime for smaller insurers and

credit unions

Supervision of medium-impact firms • PRA prepared to tolerate failure• PRA will seek to reduce both the probability and the impact of failure

through its supervisory strategy• Failure of such firms may have a non-negligible impact on the financial

system (or be resolved at non-negligible cost)

Assessing impact to define approachSupervision of high-impact firms • For high-impact firms the impact of failure is significant• PRA will focus senior supervisory resource on delivering intensive,

intrusive and judgement-based supervision • Focus on issues that significantly effect the safety and soundness of the

firm• PRA will have a low tolerance for failure• PRA wants to distance itself from ’tick box’ regulation

CPMA – objective and scope

• A more intrusive regulator with earlier intervention• Responsibility for the regulation of conduct in wholesale

and retail markets to ensure market integrity, stability and efficiency

• Specific focus on protecting consumers• Prudential and conduct of business regulation

responsibility for c25,000 firms• Responsibility for the conduct regulation of the 2,200

firms regulated by the PRA• Regulation delivered using a risk model focusing on early

risk identification and prioritisation of interventions

CPMA – consumer protection

• Using tools for comprehensive risk identification and analysis

• Earlier intervention and less reliance on firms’ own systems and controls and on disclosure to minimise risks

• Industry-wide interventions rather than firm-specific inspection (although these will continue at a similar frequency used by FSA)

• Ability to deploy resources flexibly to tackle issues and risks

CPMA – regulation of conduct in wholesale financial markets

• Protecting London’s position as a major global financial centre

• Promoting confidence in the stability, integrity and efficiency of UK financial market

• UK representation to ESMA

Key considerations

• Effective cooperation between national and international regulatory institutions

• Management of systemic risks / data within and cross border• Bankers’ remuneration• Wind down mechanisms / resolution schemes• Competition within the banking sector• Competition between financial centres • Suitably qualified supervisory staff• Economic and financial stability – sovereign and private debt

stabilisation – international capital flows• Assessing the aggregate cost of new regulation

A closing thought• Regulatory effectiveness is determined more

by the underlying philosophy of regulation and quality of the judgements made than the specific regulatory structure

• Will two new focused authorities perform better than the old regime?

• What does good regulation look like?

Reshaping the supervisory role in the financial sector

The case of the UK

Charles Taylor – Chief Operating Officer

25 January 2011

icffr.org