Too-Big-to-Fail Vexes Banks

Terry Flanagan

The Financial Stability Board (FSB) has published a report for the upcoming G-20 Summit on progress and next steps towards ending “too-big-to-fail.”

The report takes stock of the progress made in implementing the FSB’s policy framework for reducing the moral hazard posed by systemically important financial institutions (SIFIs), which was endorsed by the G20 in November 2010.

Good progress has been made in putting this international policy framework in place and there are signs that firms and markets are beginning to adjust to authorities’ determination to end “too-big-to-fail.” However, more needs to be done through legislation, regulation and international agreements.

“The initiative to end too-big-to-fail is ambitious, but essential for a more robust, competitive and fair financial system,” said FSB chair Mark Carney. “While much has been accomplished over the past few years, more needs to be done. In particular, jurisdictions need to implement fully the internationally agreed policies through additional legislation and regulation; cross border co-operation agreements must be struck, and policies for gone-concern loss absorbing capacity should be developed.”

The report sets out the further actions that are required from the G-20, the FSB and other international bodies to complete the policy initiative to end “too-big-to-fail”.

In particular, jurisdictions should undertake the legislative reforms that are necessary to implement the “Key Attributes of Effective Resolution Regimes for Financial Institutions” by 2015 for all parts of the financial sector that could cause systemic problems, including systemically important insurers and financial market infrastructure, such as central counterparties.

They should also consider complementary domestic structural measures that help promote financial stability and improve the resolvability of financial institutions without posing unnecessary constraints on the integration of the global financial system or creating invectives for regulatory arbitrage.

The costs of international and investment banking have been significantly impacted by capital requirements and jurisdictional constraints.

“The fact that this fall in profitability is projected be a permanent state of play is particularly jarring, because of the prospect of long-term global economic damage,” said Martin Dempsey, client director at U.K. consultancy Certeco, in a blog posting. “And the proliferation of domestic and international regulation is the cause.”

From conducting the changes within the business, to building the requisite systems and creating audit trails, the price of regulation is a significant one.

“Take capital ratio requirements,” Dempsey said. “The changes banks have had to make to their businesses to ensure they comply with Basel III and capital ratio directives are significant. Banks are pulling out of all sorts of risky investments – commercial property is set to be a big one. This all impacts their ability to make money.”

The SIFI framework addresses the “too-big-to-fail” issue by reducing the probability and impact of SIFIs failing. It comprises requirements for assessing the systemic importance of institutions, for additional loss absorbency, for increased supervisory intensity, for more effective resolution mechanisms, and for stronger financial market infrastructure.

To implement the SIFI Framework the FSB and the various international standard-setting bodies have developed policy measures to address systemically important banks and global systemically important insurers.
On August 12, 2013, the FSB launched a public consultation on the application of the Key Attributes to non-bank financial institutions and on principles for information sharing. On August 28, the FSB released a consultative document on an assessment methodology for the Key Attributes with criteria to assess jurisdictions’ compliance with the Key Attributes.

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