Regulatory cooperation post banking crisis”

In the beginning

The need for international regulatory cooperation has long been a mantra amongst financial supervisors.  As financial service institutions, particularly banks, became more international in nature, so the ability of nationally based regulators to oversee them became weaker.  Indeed, in some cases, such as that of the Bank of Credit and Commerce international, the bank actually used this lack of power to deliberately disguise its activities from regulatory gaze.

Furthermore, confidentiality laws in some jurisdictions, combined with a lack of coordination allowed individuals to move jurisdictions without effective checks on their previous activities to be made, so hampering fitness and proprietary checks.  Furthermore investigations of potential securities fraud, which often involve several jurisdictions were made difficult, if not impossible, by regulators being powerless to share key information or conduct investigations on another’s behalf.

Over the past few years, beginning with the work of the Basel Committee to coordinate banking supervision, followed with work by others particularly covering securities and insurance, the position has changed radically.

The development has come in a number of ways.  International standards now require regulators to have powers to cooperate across a wide range of areas, EU directive led requirements (such as the Market Abuse Directive), have placed such requirements on a statutory footing and individual jurisdictions have removed previous bars to cooperation and enhanced regulators powers to assist each other.

Regulators have also increasingly entered into bilateral Memoranda of Understanding (MOU), agreeing a modus operandi for sharing information on firms of common interest.  MOUs create no legally binding obligations. Rather, they are based on the assumption that home and host supervisor will both benefit from a suitably open and frank exchange of views and information.

More recently, the International Organisation of Securities Commissions (IOSCO), the international standard setter for securities regulations and of which the Gibraltar FSC is a member, introduced a Multilateral Memorandum of Understanding (MMOU), to promote cooperation. Indeed, so importantly does IOSCO regard such cooperation, that any members who do not sign up to the MMOU by a prescribed date, risk expulsion from the organisation.

Applicants to join the MMOU have to submit a detailed set of documentation setting out their legislative and regulatory powers of cooperation, including any restrictions. This is then assessment by a peer group of other regulators.  Gibraltar’s application is currently going through this process.

The international Association of Insurance Supervisors (IAIS), of which the FSC is also a member, has also recently introduced its own MMOU and the FSC will also sign up for this.

Directive led cooperation

Within the EU some of the most important developments have been Directive led. For example, under the Market Abuse Directive (transposed into Gibraltar law through the Market Abuse Act 2005), the FSC is required to cooperate with other EEA authorities whenever necessary, “for the purpose of carrying out their functions and duties under the Directive.”

In doing so the powers that the FSC has to investigate suspected market abuse for its own purposes are also exercisable for the purpose of assisting an EEA authority which has requested assistance in connection with enquiries being carried out by that EEA authority or on its behalf.

The only times we cannot cooperate is where the Minister with responsibility for financial services is satisfied that the assistance requested would adversely affect the sovereignty, security or public policy of Gibraltar; or relates to the same matters and the same persons in respect of whom proceedings in Gibraltar have been initiated or a court in Gibraltar has delivered a judgment

The Market Abuse Directive is not alone in requiring cooperation. Section 54 of the Financial Services (Markets in Financial Instruments) Act 2006, which transposed the Market in Financial Instruments Directive, requires the FSC to cooperate with, and assist the competent authority of other Member States whenever necessary for the purpose of carrying out its duties under the Act. In particular, we must exchange information and cooperate in any investigation or supervisory activities.

We are also required to establish cooperation arrangements with other regulators in certain circumstances.  We can also cooperate even in cases where the conduct under investigation does not constitute an infringement of our Act.

One further development in the Act is the regulatory “whistle blowing clause” which allows us, when we have good reason to suspect that acts contrary to the provisions of the Act being carried out by entities not subject to our supervision, are being or have been carried out on the territory of another Member State we must notify this in as specific a manner as possible to the competent authority of that other Member State.

The Crisis

Despite all the above measures recent events have showed a number of serious weaknesses in international regulatory cooperation, particularly in times of crisis. As was demonstrated by their comments to the UK Treasury Select Committee, both Guernsey and the Isle of Man were disappointed by the FSA’s failure to “keep them in the loop” during the period when the Icelandic banks were having massive financial upheavals. The FSA were similarly troubled by the actions in the USA in respect of Lehman’s.

In times of crisis regulators tended to become inward facing, seeking to ring fence their own jurisdiction rather than look at a more international solution. Indeed the review by the FSA’s new Chairman Adair Turner recommended in his review “a regulatory response to the global banking crisis” that there be “more international cooperation in ongoing supervision through, for instance, colleges of supervisors and more intense international cooperation and coordination in crisis management.”

As a result of these identified problems significant efforts are now being made to create a more robust international cooperation framework, particularly within the EEA.

Back to college

One of the key developments post crisis has been the development of a number of EEA wide Supervisory Colleges. “Colleges” of supervisors are permanent, although flexible, structures for cooperation and coordination among the authorities responsible for and involved in the supervision of the different components of cross-border and banking groups.  Colleges provide a framework for the consolidating authorities and the other competent authorities to carry out the tasks established in the Capital Requirements Directive.

Large banking and insurance groups have their own college. Led by the bank’s  Home Authority (the consolidating supervisor) the college contains supervisory authorities of significant branches/subsidiaries of the bank or insurer  These  authorities communicate to each other their assessment of each entity to be considered as significant and take into account each other’s assessments.  In case of disagreement, the Host authority decides whether a branch is significant.  The consolidating supervisor chairs the meetings of the college and decides which competent authorities participate in a meeting or in an activity of the college.  By invitation of the Home authority, non-EEA supervisory authorities can be part of the college

While the college does not have decision-making powers, it plays a role in the coordination of supervisory activities and enhancement of supervisory cooperation;

The aim is to facilitate the exchange of information, views and assessments among supervisors in order to allow for more efficient and effective consolidated and solo supervision (including the avoidance of duplication of tasks) and timely action in going concern and emergency situations; It is also hoped the colleges will achieve coordination of supervisory review and risk assessment, establish supervisory plans for the mitigation of risks, arrange any division of tasks and joint on-site supervisory visits;

Each competent Authority are required, in the exercise of their duties, duly consider the potential impact of their decisions on the stability of the financial system in all other Member States concerned and, in particular, in emergency situations, based on the available information.

The FSC, where appropriate, will take part in these colleges.

Handling future Crises

One key role of these new colleges is to coordinate regulatory activity in a time of crisis. Competent Authorities are responsible for assessing whether a crisis situation is affecting the institution under their supervision. Competent Authorities participating in the college are expected to cooperate closely in a crisis situation, in order to facilitate the actions and the timely decision making process of the authorities responsible for the management and resolution of the crisis.

In the case of a crisis affecting the stability of the financial system of any of the countries where the bank or insurer has subsidiaries or significant branches, the competent Authorities will involve in the crisis management process the relevant central banks and/or finance ministries if relevant.

Where an emergency situation arises which potentially jeopardises the safety and soundness of a subsidiary in any of the Member States, the Home Authority must alert as soon as practicable the Host Authority responsible for the exercise of supervision for that subsidiary.

The future- not just talking but watching

The increased flow of information between regulators will not abate. Regulators which are unable or unwilling to cooperate will find themselves and the financial service industry they supervise increasingly isolated. However it will not end there.

Cooperation is merely one part of avoiding or at least minimising future crises. The ability of national regulators to effectively supervise will also receive even greater attention than it does currently. Peer reviews of supervisors covering their powers and how they operate on a day to day basis will become more frequent and more intrusive.  For many firms used to years of onsite visits and inspections by their regulators, that idea that the regulator gets a taste of their own medicine may bring a wry smile.