Financial Stability Review
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4. Developments in the Financial System Architecture Now that the reforms to global bank capital and deposit-taking institutions (ADIs) meet a number of liquidity standards, known as Basel III, have been the main measures two or three years earlier than finalised, recent efforts by a number of international required under Basel III. The Government has recently regulatory bodies have focused on developing announced changes to the Financial Claims Scheme a policy framework for systemically important (FCS), in particular regarding the size of the deposit financial institutions (SIFIs), particularly those that guarantee cap. The key changes were informed are systemically important from a global perspective by a review conducted by the Council of Financial (so-called G-SIFIs). In July, the Basel Committee on Regulators (CFR). The Government has continued to Banking Supervision (BCBS) released a consultation develop a policy framework and legislative changes paper on its proposed methodology for identifying that will enable ADIs to issue covered bonds in a set of globally systemic banks (G-SIBs), with the Australia. These and other items on the financial view that these institutions should be required to regulatory agenda are outlined below. have higher capital than the Basel III minimum, given the greater cost their failure would likely impose on The International Regulatory the global financial system. At the same time, the Agenda and Australia Financial Stability Board (FSB) released a consultation paper on measures to improve resolution regimes Systemically important financial for all SIFIs. The FSB’s aim is to enhance the capacity institutions (SIFIs) of authorities to resolve distressed SIFIs without The BCBS’ consultation paper ‘Global Systemically disrupting the wider financial system or exposing Important Banks: Assessment Methodology and taxpayers to losses. These two initiatives are part the Additional Loss Absorbency Requirement’ of the overall policy response by the G-20 and sets out its proposed methodology for identifying international regulatory bodies to address the ‘too and ranking G-SIBs, and for determining the size big to fail’ problem. of, and instruments to be used for, the additional There has also been progress over the past six loss absorbency (capital) that those banks will be months in the work being guided by the FSB required to hold (above the new Basel III minimum). on: reforming over-the-counter (OTC) derivatives The BCBS’ proposals were developed in close markets; developing policy frameworks for shadow co-operation with the FSB and, along with the banking activities; and, to a lesser extent, developing resolution measures proposed by the FSB, seek to macroprudential policy frameworks. Domestically, deal with the cross-border negative externalities the Australian Prudential Regulation Authority created by G-SIBs. With these proposals, the BCBS (APRA) has recently issued a consultation paper on aims to reduce the probability of G-SIBs failing by the implementation of the Basel III capital reforms enhancing their capital positions. To support this in Australia and is proposing that authorised aim, it is developing an international standard to FINANCIAL STABILITY REVIEW | SEPTEMBER 2011 61 ensure that this additional capital requirement is in the initial list of 73 banks from 17 BCBS member applied consistently across countries in which G-SIBs countries that were assessed using the indicator are headquartered. approach, and from which the 28 G-SIBs were The BCBS is proposing that G-SIBs be required identified. The sample of 73 banks will be reviewed to hold additional common equity Tier 1 capital periodically, while the assessment methodology ranging from 1 to 2.5 per cent of their risk- itself will be reviewed every three to five years in weighted assets, depending on the degree of a order to capture banking sector developments and bank’s systemic importance. An additional 1 per any improvements in the methods for measuring cent capital surcharge (for a total of 3.5 per cent) systemic risk. The Reserve Bank of Australia (RBA) would be applied as a disincentive to any G-SIB and other CFR agencies will continue to contribute that became noticeably more important to the to the BCBS’ work as it finalises these policies, taking system than the currently highest-ranked G-SIB. It into account the public feedback globally on its is planned that these higher capital requirements consultation paper. will be introduced in parallel with the Basel III capital As part of a workstream on reducing information conservation and counter-cyclical buffers – that gaps revealed by the global financial crisis, the FSB is, starting on 1 January 2016 and becoming fully is also developing a draft reporting template for effective on 1 January 2019. The FSB and several large global banks. It is intended that this will cover other international bodies are currently undertaking data relating to the above indicators of systemic an assessment of the macroeconomic impact of importance, as well as data capturing measures the additional capital requirement; preliminary of systemic risk. The template will be subject results indicate that a 1 percentage point increase to a consultation process to provide additional in capital applied to G-SIBs would dampen growth information on the costs and benefits of alternative only very marginally over either a four- or eight-year data collection options, as well as on the legal and implementation period. confidentiality aspects of data collection and sharing. The BCBS’ proposed assessment methodology for This will guide the FSB’s decision on the final form G-SIBs is an indicator-based approach comprising and implementation of the data template. The RBA five components: size, global (cross-jurisdictional) is participating in the development of this template. activity, interconnectedness, substitutability and In addition to banks, the G-SIFI policy framework complexity. To these indicators is added a supervisory will cover insurers. The International Association judgement overlay, which uses ancillary quantitative of Insurance Supervisors (IAIS) is developing a indicators as well as qualitative information. provisional methodology and set of indicators for Based on end 2009 data, applying the assessment assessing the global systemic importance of insurers, methodology together with the supervisory as input to the initial determination by the FSB and judgement overlay, the BCBS identified and ranked national authorities of G-SIFIs. The indicators are likely 28 G-SIBs. This number is likely to evolve over time to be similar to those used to identify G-SIBs (such as as banks change their behaviour in response to the size, global activity and interconnectedness), but also incentives provided by the framework, or as new contain certain indicators specific to the insurance globally systemic banks are identified (for example, sector and may have a different emphasis. A progress from emerging markets). The BCBS has committed report by the IAIS on this methodology was reviewed to addressing certain data quality issues and to by the FSB in July. The IAIS has commenced work on re-running the assessment methodology using collecting data to see how the methodology would updated data well in advance of the implementation apply in practice. date. Several Australian-owned banks were included 62 RESERVE BANK OF AUSTRALIA A key feature of the FSB’s work on SIFIs has been a Australia will continue to engage with international distinction between institutions that are systemically bodies in reviewing developments in these areas. important in a global context and those that are In particular, the RBA, in conjunction with the other important only in a domestic context (so-called CFR agencies, will review Australia’s response to D-SIFIs). To date, the focus has been on identifying emerging international views about the need for and developing policies for G-SIFIs. This priority standards to be developed in these areas. has been appropriate given the concern that the failure of one of these institutions would likely cause Supervisory intensity and effectiveness significant dislocation in the global financial system The FSB is continuing to co-ordinate efforts to and adverse economic consequences across a range enhance supervisory intensity and effectiveness (SIE) of countries. Both the FSB and the G-20 have stated across both the banking and insurance sectors. The their intention that, once the policy framework FSB recently reviewed the progress being made by for G-SIFIs is agreed, attention will turn to policies national authorities to address SIE, including their relevant for D-SIFIs. self-assessments against the Basel Core Principles The FSB’s consultation paper ‘Effective Resolution for Effective Banking Supervision (BCPs) covering of Systemically Important Financial Institutions’ mandates, powers, resources and independence of presents a far-reaching plan to improve resolution supervisory agencies. The FSB also considered the regimes, thereby improving the capacity of changes national authorities are making to improve authorities to resolve failing SIFIs. This is motivated their supervisory methods based on a survey by the by the experience during the crisis which showed BCBS of its members. that many national resolution regimes could not APRA undertook the self-assessment, and concluded effectively manage the failure of a large institution in that the Australian legislative framework provides an orderly manner.