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The Financial Conglomerates Directive
and Basel iii / Basel iii
Question:
What is common
in the Capital Requirements Directives (Basel ii / Basel iii in the EU) and the
Financial Conglomerates Directive?
Answer:
The need for the prudential supervision of financial conglomerates
and financial groups involved in cross-sectoral activities to
foster the stability of the financial system.
All the above directives try to ensure that:
1. Financial conglomerates are adequately capitalised
2. The same capital is not being counted twice
– is not used as a
buffer against risks in different entities
3. Conglomerates calculate their overall solvency position
4. There is ONE lead regulator for
financial conglomerates, and not many national regulators that
understand only a part of what is really in the conglomerate
In the Financial Conglomerates Directive we have the
“co-ordinating supervisor”, not so different from the
“consolidating supervisor” we have in Basel ii / Capital
Requirements Directive.
The co-ordinating supervisor for
financial conglomerates
can be the same with the consolidating supervisor.
The
“co-ordinating supervisor”
exercises
supplementary supervision:
• requires adequate capital resources to be available at the level
of the financial conglomerate
• monitors significant risk concentrations at the level of the
financial conglomerate;
• monitors significant intra-group transactions
According to the Financial Conglomerates Directive, the
consolidated group must be subject to supervision and minimum
capital standards by an EU member state authority.
Firms that are headquartered outside the EU, and are operating in
EU markets, must be subject to supervision at the holding company
level by a competent home country authority, which supervision is
equivalent to that provided for by the provisions of the
Directive.
The EU's national supervisors will be responsible to decide about
it (equivalency determinations) on a group-by-group basis, in
accordance with guidance issued by the European Commission
What has happened?
The Joint Forum on Financial Conglomerates (Joint Forum) was
established in early 1996 under the aegis of the Basel Committee
on Banking Supervision (Basel Committee), the International
Organisation of Securities Commissions (IOSCO) and the
International Association of Insurance Supervisors (IAIS).
In chapters D and E of the “Supervision of
Financial Conglomerates”, from the Bank for International
Settlements, there is a framework and principles of supervisory
information sharing. These principles
help assure
that there are no material gaps in supervisors' understanding of
inter-affiliate relationships within a financial group that could
ultimately result in financial instability. There are
also approaches to the supervisory information sharing, especially
between G-10 and non-G-10 supervisors.
The Joint Forum “has reviewed various means to facilitate the
exchange of information between supervisors within their own
sectors and between supervisors in different sectors and has
investigated legal or other barriers which could impede the
exchange of information between supervisors within their own
sectors and between supervisors in different sectors”
In June 2006, in another publication, the
“Home-Host Information Sharing
in Effective Implementation of
Basel II” we read the
responsibilities for home and host supervisors and the high-level
principles for the cross-border implementation of Basel ii.
Every time we
read the words “framework”
and “principles” in a new paper from the Basel
Committee, we do not need to be prophets to expect a directive
from the European Union.
Notes
The
establishment and development of
large, complex groups combining several banking and insurance
licenses, was recognized in the early nineties.
Following recommendations by the Joint Forum, the G10 body of
supervisors, the Financial
Conglomerates Directive1 (FICOD) was adopted in 2002.
It aimed
at the supplementary
supervision of regulated entities that form part of a financial
conglomerate, by focusing on potential risks of
double gearing (multiple use of
capital) and on "group risks": the risks of contagion,
management complexity, risk concentration, and conflicts of
interest.
Since 2002, markets have further
developed in a direction where the distinction between
banking business and insurance business is not always easily
discernable and where the
largest groups are active in
many countries.
Both the
revision of the 1988 Basel Accord
in 2004, implemented in the EU by the Capital Requirements
Directive (CRD) in 2006, and the introduction of a comprehensive
set of regulations for insurance companies in
Solvency II (S2) developed the
regulatory framework but, as regards
conglomerates, only in so far as legal entities of a group are
active in the same sector - banking or insurance.
The
supplementary regulatory framework under FICOD dealing with the
additional complexity and risks stemming from combinations of
licenses has not been evaluated yet.
As of
the end of 2009, the directive covered
69 European groups and 6 third
country groups.
About 35 of them are small and operate mainly domestically with
a few licenses.
Although
the revision is also intended to simplify the supervision of
small conglomerates, it specifically deals with the supervision
of the 30 or so biggest financial
groups in Europe.
Total
assets of these at the end 2009 exceeded €25 trillion,
representing a substantial share of the EU banking market of
roughly €42 trillion assets and the EU insurance market of
roughly €10 trillion assets.
A typical large conglomerate has over
400 licenses in several jurisdictions and several
sectors: banking, life and/or non-life insurance, asset
management.
The
Commission discussed possible improvements to the current
legislative text three times at the
European Financial Conglomerates Committee (EFCC) and
three times in its FICOD
working group.
The
FICOD review benefited from two earlier evaluation exercises
with respect to financial conglomerates regulation conducted by
the so-called Mixed Technical Group
in 2005 and by the Interim Working Committee on Financial
Conglomerates, a predecessor to the
Joint Committee on Financial Conglomerates (JCFC), in 2008 ("the
Capital Advice").
In April
2008 the EFCC approved the launch of the required review of the
FICOD with a Call for Advice to the JCFC.
The
industry has been involved - by means of the EFCC first
newsletter and dialogues - since
May 2008, and has also
expressed its views on four public occasions since then.
After receiving the final JCFC Advice in October 2009, a public
consultation on the
remaining questions and potential policy
alternatives under consideration ran from 6
November 2009
until 15 January 2010.
Responses to the public consultation6 from a variety of both
bank- and insurance-led conglomerates of a range of sizes
revealed a broad support for the Commission services'
suggestions.
The amendment of the Financial Conglomerates Directive
The
legislative proposal on the Financial Conglomerates Directive
(the so-called FICOD I) was adopted by the European Commission
on 16 August 2010.
A
general approach to this proposal was adopted by the ECOFIN
Council on 17 November 2010, to start negotiations with the
European Parliament (EP).
If adopted,
the CRD and Solvency II provisions on ultimate parent entity
level will also apply if that ultimate parent is a mixed
financial holding company, i.e. subject to the FICOD.
The
three Directives will be applicable at the same ultimate parent
entity level, which will enforce supervisors' grip on groups as
purported by the FICOD.
A debate
on strengthening the supervision of financial conglomerates in a
more fundamental way started with the Commission's Conglomerate
Conference on 7 June 2010 and was followed up by a discussion
among Member States on 11 October 2010.
As
announced during the conference, recommended by the Joint Forum
and endorsed by the Financial Stability Board (FSB), as well as
in the earlier consultation on FICOD I,
key elements of that debate are:
(1) the
regulation of non-operating holding companies,
(2) the
inclusion of non-regulated or less regulated entities such as
special purpose entities and hedge funds,
(3)
internal governance (group wide risk management, living wills),
(4)
alignment of supervisory provisions (e.g. capital eligibility)
and powers across directives,
(5) the
scope of supplementary supervision in general.
The
debate closely follows what is happening at the Joint Forum and
the FSB, for example, the FSB recommendations on intensity and
effectiveness of SIFIs supervision, published on 2 November
2010.
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