Reshaping the supervisory role in the financial sector The case of the UK Charles Taylor – Chief Operating Officer 25 J

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

2. The regulatory cycle Phase 1 crisis 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 4 detail of legislative proposals is tested. Industry pushback grows, political commitment wanes. G20 falters / reassesses. Long implementation phase begins. Regulatory capture

3. Thirty years of the Basel process 07-1988 Basel I issued 12-2009 Basel III consultative document issued 01-2019 Full implement’n of Basel III 12-1996 Market risk amendment issued 07-2009 Revised securitisation & trading book rules 06-2004 Basel II issued 2020 2000 1990 2010 07-1992 Basel I issued 12-2011 Basel III consultative document issued 01-2013 Implement’n of Basel III begins 12-1997 Market risk amendment issued 12-2007 Revised securitisation & trading book rules 12-2006 Basel II issued 11-2010 G20 endorsement of Basel III Source: BIS December 2010

4. Protracted implementation timeline

5. Existing –vs–new paradigms Source: H Hannoun, BCBS, March 2010

6. The international regulatory structure G20 BCBS, IOSCO, IAIS, IASB International standards bodies and regulatory forums FSB Financial Stability Board Working with IMF / OECD EU Legislators Council of Ministers European Parliament European Commission Co-ordination ESRB European Systemic Risk Board ESFS European System of Financial Supervision EBA Banking (London) EIOPA Insurance and Occupational Pensions (Frankfurt) ESMA Securities and Markets (Paris) Reports on systemic risk Provides data from firm supervision Source: CMS Cameron McKenna

7. The new UK regulatory structure Represents UK at ESMA Represents UK at EBA, EIOPA and ESRB Government HM Treasury CPMA: Consumer Protection & markets Authority Bank of England MPC: Monetary Policy Committee FPC: Financial Policy Committee Macroprudential tools Normal and emergency liquidity provision to banks PRA: Prudential Regulatory Authority Judgement based prudential and financial supervision • Prudential and COB supervision • COB supervision Banks & building societies Investment banks Insurers & other financial institutions Insurance, mortgage and investment intermediaries Source: CMS Cameron McKenna

8. The new UK regulatory philosophy 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 Source: ICFR

9. 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

10. Assessing impact to define approach Firms will be analysed and categorised as low, medium or high impact firms in terms of the impact on the economy of their failure Supervision 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)

11. Assessing impact to define approach Supervision 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

12. 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

13. 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

14. 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

15. 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

16. 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?

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