9. Regulation of Financial Intermediaries (II)

Question 1

Structural Reform - Ring Fencing

Answer 1

• Came into force on 1 Jan 2019.
• Requires largest banking groups’ to separate core retail banking services from activities such as investment and international banking.

Question 2

What are the lessons from the global financial crisis since 2007?

Answer 2

• Importance of financial stability to economic growth.
• Consumer protection and transparency of complex products.
• Prevention of systematic risk
• Prevention of costly bailout.

Question 3

What was the damage from systematic risk vs costly bail?

Answer 3

• Government during the crisis: rapid response on costly trade-offs.
• Unintended consequences: too-big-to-fail problems
• Aftermath: prudential policies and reforms.

Question 4

Background of Ring-Fencing in UK banking sector

Answer 4

• Govt established independent commission on banking (ICB), led by Sir John Vickers with final report in Sep 2011
• Recommended banking reforms to promote financial stability and competition in the United Kingdom.

Question 5

What were the recommendations in Vicker’s report?

Answer 5

• Curb incentives for excessive risk-taking.
• Reduce costs of systemic financial crises.
• Promote effective competition.

Question 6

In the US, what was similar to Vickers’ report?

Answer 6

• Volcker rule as the Dodd-Frank Wall Street Reform and Consumer Protection Act 2010

Question 7

What was similar in the EU to Vickers’ report?

Answer 7

• Lilkanen report drafted by a high level group of experts established by the EU commission.

Question 8

What activities occur within a ring-fenced body?

Answer 8

• Retail and small business deposit-taking.

Question 9

What activities occur in an entity that is not a ring-fenced body?

Answer 9

• Trading and selling securities, commodities and derivatives.
• Having exposures to financial institutions other than building societies and other RFBs.

Question 10

What activities can be provided by either entity?

Answer 10

• Deposit-taking activities for large corporates, building societies and other RFBs.
• Lending to individuals and corporates.
• Transactions with central banks.
• Holding own securitisation.
• Trade finance
• Payment services
• Hedging liquidity, interest rate, currency, commodity and credit risks.
• Selling simple derivatives to corporates, building societies and other RFBs.

Question 11

What is the job of the PRA?

Answer 11

Required to makes rules to ensure the continuity of the RFBs core activities and to achieve sufficient separation of the RFB from the rest of its group.

Question 12

What constitutes sufficient separation by PRA legislation?

Answer 12

• Reduce the potential risks for risks which originate elsewhere in a banking group to affect an RFB.
• Ensure RFBs are able to take decisions independently of the rest of their banking groups.
• Reduce an RFBs dependency on financial or other resources provided to it from other members of the banking group
• Ensure RFBs are able to carry on their business even if other group members fail.

Question 13

What has ring-fencing done to help banks?

Answer 13

• They improve resilience of retail banks.
• Banks adopted different approaches of reform based on their individual models and strategies.

Question 14

Skoech Report Update to RFB Before Activities (RFB)

Answer 14

• Retail and small business deposit-taking

Question 15

Skoech Report Update to RFB Before Activities (NRFB)

Answer 15

• Dealing in investment as principal.
• Commodities trading
• Having exposure to FIs larger than SMEs

Question 16

Skoech Report Update to RFB Before Activities open to both entities.

Answer 16

• Deposit taking for large corporates, building societies and other RFBs.
• Having exposure to building societies and other RFBs.
• Lending to individuals and other corporates.
• Holding own securitisations.
• Trade finance
• Payment services
• Hedging liquidity, interest rates, currency, commodity, and credit risks for itself.
• Selling very simple derivatives to corporates, building societies and other RFBs.
• Exposure to financial institutions classed as SMEs
• Excluded activities below a de minimus level.
• Operations outside EEA.

Question 17

What are the evaluations on Ring Fencing?

Answer 17

• To end too-big-to-fail and prevent the costs of bank failures falling on tax payers.
• Early concerns/criticisms:
• Limit funding channels of retail banking and may raise cost of borrowing (LCR, NFSR)
• Shadow banking: tougher rules for lenders can push business into less regulated institutions.
• Moral hazard still on ring-fenced banks?
• International coordination and competition (UK v EU v US)
• De-globalisation moves and revokes regulations.