Path to Effective Supervision – Convergence of Practices in Europe José María Roldán | 14 Nov 2005

Path to Effective Supervision – Convergence of Practices in Europe

José María Roldán | 14 Nov 2005

José María Roldán | 14 Nov 2005 2

Outline

• Drivers for change in banking supervision

• Basel II implementation in Europe

• CEBS' role and tasks

• Challenges for the supervision of cross-border groups

• CEBS’ response: examples– Supervisory disclosure

– Enhanced co-operation between home and host supervisors

– Supervisory Review Process (Pillar 2)

– Common reporting

• Creating European supervisory culture


Drivers for change in the EU banking supervision

• Banking market: • Cross-border activity• Consolidation• Centralisation of business functions at group level• Outsourcing of activities• Diversity of banking structures

• Regulatory framework: • Basel II (CRD) risk-focused supervision• IAS/IFRS new standards, with impact on

supervisory tools• Post FSAP implementation and convergence of

practices

Response: the Lamfalussy process


CEBS’ role and focus

EBC¹

Commission Parliament

EIOPC¹ ESC¹ EFCC¹

Enforcement Commission

Council

CEIOPS³ CESR³

L1

L2

L3

L4

CEBS²

EBC = European Banking CommitteeEIOPC = European Insurance and Occupational Pensions Committee ESC = European Securities CommitteeFCC = Financial Conglomerates CommitteeCEIOPS = Committee of European Insurance and Occupational Pensions SupervisorsCESR = Committee of European Securities Regulators

¹ Finance ministries ² Supervisors and Central Banks³ Supervisors

Framework legislation

Implementing details

Convergence


Basel II implementation

in Europe

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Implementation in the EU

• Legal instrument to transpose Basel II to European legislation: Capital Requirements Directive (CRD).

• Across all 25 EU countries (and 3 EEA countries); 8300 banks and more than 40 cross-border groups

• Importance of the scope: The directive will apply to all credit institutions and investment firms.

• CEBS guidelines for consistent implementation and convergence of supervisory practices

Basel II – a global agreement

The CRD – European legislation



• Basel II: three pillars with checks and balances

• Complex in detail but clear purpose and architecture

• Based on the best practices of the industry => efficient regulation from an economic perspective

• Flexible framework for small and big banks

• QIS 5

• The CRD from January 2007

3 pillars

Minimum Capital

Requirements

Regulatory view

Supervisory review and evaluation

(SREP)+

Banks’ internal view (ICAAP)

Market discipline

Market view

Credit riskMarket riskOperational

risk

Supervisory judgment

Disclosure requirements



• Recognises and encourages developments in risk management and supervisory practices

• Incentives for all institutions to adopt more sophisticated approaches

• A good business tool with business value (not just costs!)

Capital adequacy requirements

Internal controls,

reporting, audit and contingency

planning

The board and senior

management

Risk management


CEBS – role and tasks

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CEBS’ role and tasks

Main tasks:

– to give advice to the Commission

– to promote consistent implementation of EU legislation

– to enhance convergence of supervisory practices

Objectives:

Promoting cross-border supervisory co-operation and the safety and soundness of the EU financial system through:

– good supervisory practices

– efficient and cost-effective approaches to supervision of cross-border groups

– effective regulation

– level playing field and proportionality


CEBS role and tasks

CEBS focus on:

• Consistent implementation and convergence of supervisory practices (Level 3)

• Prudential issues, in particular Capital Requirements Directive (CRD)


Work Programme

Priority areas of work

Regulatory advice to the CommissionOwn funds, large exposures; possibly follow up on cross-border mergers and deposit guarantee schemes

Convergence of supervisory practiceSupervisory Review Process (Pillar 2)Validation of IRB and AMA systemsExternal Credit Assessment Institutions (ECAIs)Harmonisation of reporting requirements Supervisory disclosure

Co-operation and information exchangeSupervision of cross-border groups (home-host) Crisis management (joint with the BSC)Information exchange

Cross-sectoral issuesSupervision of financial conglomeratesOff-shore financial centresOutsourcing and internal governance

Other areas of work

Risks to banking stabilityOutsourcingInternal governanceImpact of IFRS on prudential requirementsThe role of the audit function for prudential supervision

Delivered products

Advice: national discretions (work continues), prudential filters, cross-border mergers, e-money, DGS

Consultation papers: consultation practices, outsourcing, supervisory review process, common reporting, financial reporting, validation, ECAIs, CEBS role and tasks, home host

Guidelines: Supervisory disclosure


Work programme

• Main priority for CEBS in 2006 is implementation of the Capital Requirements Directive

• Final guidelines on:

– Supervisory disclosure (tool to monitor implementation)

– Supervision of cross-border groups

– Validation of IRB and AMA systems

– Supervisory Review Process (Pillar 2)

– Common reporting frameworks (IFRS and solvency ratio)

– Recognition of External Credit Assessment Institutions (ECAIs)

• Consistent implementation and application


CEBS - toolbox

• Standards

• Guidelines

• Recommendations

• Public disclosure

• Training and staff exchange

Voluntary co-operation, unanimity

commitment from members toimplement common decisions


Challenges for the supervision of cross-border groups

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Challenges for the supervision of cross-border groups

1) Potential divergence in implementation– National options and discretions– Additional layers of national rules (“goldplating”)– Different interpretations

2) Complex and possibly fragmented supervisory process – Misalignment of legal and operational structures in banking groups – Risk of overlapping or conflicting supervisory assessments– Validation of models and Art. 129– Supervisory Review Process (Pillar 2)

3) Administrative burden

– Compliance costs, large vs. small banks – Differences in supervisory reporting– Duplication of contacts


CEBS’ response

1) Potential divergence in implementation

supervisory disclosure

2) Complex and possibly fragmented supervisory process

enhanced home-host co-operation, Pillar 2

3) Administrative burden

common reporting requirements


Supervisory disclosure

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CEBS’ response: supervisory disclosure

• Supervisors are required to publish (CRD Art. 144):– Rules and guidance

– How options and national discretions are exercised

– Supervisory review and evaluation

– Statistical data on key implementation issues

• Easy access and meaningful comparison peer group pressure– Internet access via CEBS website www.c-ebs.org

– Links to national websites

– Comparable information

– Common language - English


CEBS’ response: supervisory disclosure


Home-host co-operation

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CEBS’ response: enhanced home-host co-operation

• CRD Art. 129 to 132, enhanced co-operation and role of the consolidating supervisor

• CEBS draft Guidelines, a practical framework for:

–Co-ordinated planning

–Structured exchange of information

–Avoidance of redundancies

–Optimal use of supervisory resources

• Concrete examples: risk assessment and validation


CEBS’ response: enhanced home-host co-operation

• The notion of significance and systemic relevance

• The process of information exchange

• The respect of the legal allocation of responsibilities

• Operational networks and delegation of tasks

• Transparency of the arrangements


Supervisory Review Process (Pillar 2)

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Supervisory Review Process

Objectives of Pillar 2 are to:

• Ensure institutions have adequate capital to support all risks in their business

• Encourage institutions to manage risk and hold capital above Pillar 1 minimum requirements

• Foster an active dialogue between institutions and supervisors

• Covers the relationship between:

– Supervisor’s SREP (the Supervisory Review and Evaluation Process); and

– Institution’ ICAAP (the Internal Capital Adequacy Assessment Process)

Basel II

Minimum Capital

Requirements

Regulatory view

Supervisory review and evaluation

(SREP)+

Institutions’ internal view

(ICAAP)

Market discipline

Market view

Credit riskMarket riskOperational

risk

Supervisory judgment

Disclosure requirements

Banks and investment firms

Pillar 1 Pillar 2 Pillar 3


Supervisory Review Process

• Proportionality is the key:- For large complex institutions in-depth and “tailor-made”

- For smaller institutions likely to be quite standardised

- CEBS considering possible guidance for smaller institutions

• Second consultation finished in October

• CEBS guidelines in January 2006– Mixed response: high level principles or detailed guidance?

– Small banks ask for detailed guidelines


Common reporting

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CEBS’ response: common reporting

The challenge:

HOW TO

• limit the costs of pan-European institutions

WHILE

• respecting the diversity of the Single Market (large/small firms) and limit the impact on small local institutions



• Common frameworks for:– Financial data for prudential purposes

– Reporting of the solvency ratio

• CRD and IFRS window of opportunity for change: less administrative burden for cross-border groups; limited impact on small, local banks

• Common templates and possibilities presented by new technologies (XBRL)

• Consultation: criticisms on size and national flexibility

• But new rules are complex and supervisors move from quite different starting points



• Layer approach: harmonization & flexibility

– Core: key information which more or less can be expected throughout the EU

– Detailed: comprehensive information which a majority of supervisors may require

• Reduction after consultation:

– COREP: ± 75% (level of detail between US and Canada)

– FINREP: ± 40%

• Finalization in December 2005 due to pressure from the industry, no second round of consultation



Reporting now… and later…

EU GroupReporting

Supervisor 1

Supervisor 3

Supervisor 2

Various data streams Common frameworkDifferent reporting standards Single formatManual processes Automated data collection

EU GroupReporting

Supervisor 1

Supervisor 2

Supervisor 3

XBRL

XBRL


Creating a European supervisory culture

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Creating a European supervisory culture

• Compendium of CEBS’ standards, guidelines and recommendations– for supervisors and market participants

– flexible, internet-based structure, easy to update

– consistent terminology, definitions

• Inventory of implementation issues

• Training programmes and staff exchange


Conclusions

• Differences across countries not wiped out, but visible, so that priorities for further work can be identified

• Not a single supervisory interface, but a more coordinated and streamlined process

• Not a single compliance process, but greater commonality of approaches and a process for further convergence where needed

a structured process for convergence, whose pace and end result are not predetermined


Questions?

Thank you!

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Contact details:

Chairman José María RoldánEmail: [email protected]: +44 20 7382 1770

Documents

Path to Effective Supervision – Convergence of Practices in Europe José María Roldán | 14 Nov 2005