Monday October 15, 2012 - Top 10 Risk Management News
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Monday October 15, 2012 - Top 10 Risk Management News

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    Monday October 15, 2012 - Top 10 Risk Management News Monday October 15, 2012 - Top 10 Risk Management News Document Transcript

    • Page |1 International Association of Risk and Compliance Professionals (IARCP) 1200 G Street NW Suite 800 Washington, DC 20005-6705 USA Tel: 202-449-9750 www.risk-compliance-association.com Top 10 risk and compliance management related news storiesand world events that (for better or for worse) shaped the weeks agenda, and what is nextDear Member,The National Institute of Standards andTechnology (NIST) announced the winnerof its five-year competition to select a newcryptographic hash algorithm, one of thefundamental tools of modern information security.The winning algorithm, Keccak (pronounced“catch-ack”), was created by Guido Bertoni,Joan Daemen and Gilles Van Assche ofSTMicroelectronics and Michaël Peeters ofNXP Semiconductors.Keccak will now become NIST’s SHA-3 hashalgorithm.Hash algorithms are used widely forcryptographic applications that ensure theauthenticity of digital documents, such as digital signatures and messageauthentication codes.These algorithms take an electronic file and generate a short "digest," asort of digital fingerprint of the content.Read more at Number 3 below.Welcome to the Top 10 list. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • Page |2New Bank Liquidity Rules: DangersAheadA Position Paper by EBA’s BankingStakeholder GroupThe EBA’s Banking Stakeholder Group is composed of 30 membersappointed to represent in balanced proportions credit and investmentinstitutions operating in the Union, their employees’ representatives aswell as consumers, users of financial services and representatives ofSMEs.Governor Elizabeth A. Duke, at the Federal ReserveBank of New York, New York, New YorkAddressing Long-Term Vacant Properties toSupport Neighborhood StabilizationNIST Selects Winner of Secure HashAlgorithm (SHA-3) CompetitionThe National Institute of Standards andTechnology (NIST) announced the winner ofits five-year competition to select a newcryptographic hash algorithm, one of thefundamental tools of modern informationsecurity. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • Page |3UK FSAFinancial Crime newsletterIssue 16 of the Financial Crime newsletter.So far, 2012 has been particularly busy.EBA Work Programme 2013The annual work programme describesand summarises the main objectives and deliverables of the EBA in theforthcoming year derived from the tasks specified in the Regulation andfrom the relevant EU banking sector legislation.Introductory Remarks at SEC’s MarketTechnology RoundtableBy Chairman Mary L. Schapiro, U.S. Securities andExchange Commission, Washington, D.C.“Thanks to technology, our securities markets aremore efficient and accessible than ever before.But we also know that technology has pitfalls. Andwhen it doesn’t work quite right, the consequencescan be severe”.Why we should be interested in thehistory of currenciesAddress by Ernst Baltensperger Presentationof “Der Schweizer Franken – eine Erfolgsgeschichte” _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • Page |4High-level Expert group on reformingthe structure of the EU banking sectorpresents its reportThe Commission has received the reportprepared by the High-level Expert Group onreforming the structure of the EU banking sector (MEMO/12/129). TheGroup chaired by Erkki Liikanen presented the main findings to MichelBarnier, Commissioner for internal market and services.A Statement by His Excellency the Governor of Saudi ArabianMonetary Agency, Dr. Fahad bin Abdullah AlmubarakOn the occasion of the National Day of the Kingdom of Saudi ArabiaGerman bankssuccessfully completeEU-wide recapitalisation exerciseAfter deduction of the "sovereign capital buffer", all 12 Germaninstitutions in the sample achieved the minimum core tier 1 capital ratioof 9% as at 30 June 2012.The average ratio is 10.7%, which means all institutions taken togetherexceed the EBA minimum capital requirement by €15.5 billion.The five banks which were found to need an additional €12.9 billion as at30 September 2011 have covered this requirement. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • Page |5NUMBER 1New Bank Liquidity Rules: DangersAheadA Position Paper by EBA’s BankingStakeholder GroupNote:The EBA’s Banking Stakeholder Group is composed of 30 membersappointed to represent in balanced proportions credit and investmentinstitutions operating in the Union, their employees’ representatives aswell as consumers, users of financial services and representatives ofSMEs.The Group’s role is to help facilitate consultation with stakeholders inareas relevant to the tasks of the EBA. In particular, the Group shall be consulted on actions concerningregulatory technical standards and implementing technical standardsand, guidelines and recommendations, to the extent that these do notconcern individual financial institutions.The Group may also submit opinions and advice to the Authority on anyissue related to the tasks of the Authority, with particular focus oncommon supervisory culture, peer reviews of competent authorities andassessment of market developments. The Group may also submit a request to the Authority, as appropriate, toinvestigate the alleged breach or non-application of Union law.1 Overview and Key Issues1.1 Liquidity rules and the role of EBACredit institutions across Europe face an unprecedented amount ofregulatory reforms, originating from the 2009 De-Larosière Report andthe third release of the Basel Accord (“Basel 3”) in 2010. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • Page |6The new Capital Requirements Directive (CRD4) and Regulation (CRR),that the European Union is currently debating, will create a common sinequa non for institutions throughout the European Union.The CRR will establish a consistent and integrated regulatory frameworkfor many aspects of bank management – including liquidity – providing ahomogeneous standard under a unified set of prudential rules.In relation to liquidity, two new requirements have been proposed byBasel 3 to ensure that financial institutions are more stable and willrequire them to hold more liquid assets and issue more long-term debt.The Liquidity Coverage Ratio (LCR) is aimed at ensuring short-termresilience of financial institutions.They will be required to hold at all times liquid assets, the total value ofwhich equals, or is greater than, the net liquidity outflows which might beexperienced under stressed conditions over a short period of time (30days).Net cash outflows are to be computed on the basis of a number ofassumptions concerning run-off and draw-down rates.The LCR will be monitored in the EU after January 2013 and theEuropean Banking Authority (EBA) will test various eligibility criteria forliquid assets.Calibration will also be undertaken regarding net cash outflows.This fine-tuning will provide input for the level-two regulations to beintroduced by the European Commission before January 2015, when theLCR will become binding for all credit institutions in the EU.The Net Stable Funding Requirement (NSFR) requires that availablestable funding (equity and liability financing expected to remain stableover a one-year time horizon) at least equals the matching assets, i.e.illiquid assets which cannot be easily turned into cash over the following12 months. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • Page |7In the European Union the components of the NSFR will be monitoredfrom 2013 with a view to introducing a binding requirement in 2018.The CRR – while setting a clear and comprehensive framework for themeasurement and control of bank liquidity – leaves many details open forcalibration, impact assessment and review.As mentioned above, the EBA has been assigned a key role in theimplementation of the new regulatory framework; it is required to providesupervisors and European institutions with criteria, standards andtechnical advice on a wide-ranging set of issues.1.2 The LCR: expected impact and scope for calibrationAs it will be phased in first, the case for calibration and carefulimplementation of the LCR is stronger.Similar attention will be required for the NSFR once a full consensus onthe its structure has been achieved.Accordingly, although this report covers all liquidity rules introduced bythe CRR, the LCR has been the main the focus of the contributions.Based on the latest impact studies, the LCR shortfall of EU banks (that is,the absolute amount of extra liquid assets needed for all banks to complywith the ratio) currently exceeds 1 trillion euros.Between 2009 and 2011, this shortfall has not improved.Actually, it has deteriorated from €1tn to €1.15tn, with a 15% increase inthe (almost overwhelming) amount that EU banks would need to investin liquid assets in order to be compliant.This clear risk or threat is that European banks may channel new fundingtowards LCReligible assets rather than to loans and other “illiquid”assets. E.g., European banks could increase their liquidity buffer throughadditional deposits with central banks (which play no role in financing _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • Page |8the real economy and which, in 2011, already amounted to about €850million for large EU banks).Essentially the LCR would have the effect of crowding out productiveinvestments and sterilize €1 trillion of liquidity out of the real Europeaneconomy.In other words, unless the funding base available to European banks canquickly be increased (which appears quite unlikely in the currentmacroeconomic scenario), the LCR might lead to €1trillion loandeleveraging process by December 2014.Such a risk would become especially acute if a narrow definition ofLCR-eligible assets were enacted, which would deny adequaterecognition to some financial instruments supporting the financing ofcompanies and individuals, like corporate bonds, covered bonds or assetbacked securities.While, in principle, capital markets may provide a substitute for reducedbank funding, this looks improbable given the limited development ofcorporate debt markets in many European countries and the high degreeof risk aversion currently shown by investors.All the above provides a strong incentive for a rigorous calibration of theLCR.There are indeed, a number of steps in the computation of the ratio whichcould be reconsidered, in order to make it closer to market practices andto reduce the foreseeable burden for banks and the European economy.Any ratio is made up of two components.One can look at the LCR numerator, and consider ways to enhance theset of assets eligible as liquidity buffer.By allowing banks to use, for example corporate bonds and asset-backedsecurities as liquid assets, regulators would greatly support thedevelopment of those asset classes throughout Europe, and thus help the _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • Page |9European capital market absorb the loans that banks will no longer beable to provide.Alternatively (or, rather, jointly) one can look at the denominator andcarefully revise the assumptions on runoff/drawdown/rollover factorsunderlying the computation of the net cash flows.The definition of liquid assets in the LCR will affect the behaviour ofmarket participants, hence the liquidity of different asset classes.Banks will prioritise “liquid assets” as defined in LCR and“down-prioritise” other assets, which will alter the demand for differentsecurities.Additionally, during a crisis banks while trying to comply with the LCRwill generate liquidity in the first place by selling assets which are noteligible for the ratio.The definition of liquid assets in the CRR will not just depend on thecurrent market conditions, but rather will drive behaviours affecting thefuture liquidity of different security types.If such definitions were to prove inadequate, unintended consequencescould build up through a snowball effect.Assumptions on cash flows (including run-off, draw-down and roll-overfactors) will also have a dramatic impact on the underlying bankproducts, and may shift funds across business lines and differentcategories of bank stakeholders.E.g., limited recognition for the benefits of self-liquidating facilities(including trade finance) may increase their cost and ultimatelyundermine the economic viability of some lending activities.Credit provided to SMEs might become unduly expensive. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 10Interbank lines of credit – a key tool to improve bank resilience toliquidity shocks – may prove less and less attractive due toover-conservative rules.1.3 This reportThis position paper was produced by the Banking Stakeholder Group toprovide the EBA and European policy makers with a technical discussionof several areas where the new rules risk to have unintended effects unlessproperly calibrated and carefully implemented.Its structure is the following.Part 1 provides a general framework to introduce the calibrations in liquidassets and net cash flows that will be discussed in the following sections.We highlight the main implications of the new liquidity ratios for banksand for the European real economy; we then go back to the rationale ofthe liquidity requirements and discuss whether their anticipated costs areconsistent with expected benefits.The next contribution surveys national regulations on liquidity – prior toand after the 2008-2009 financial crisis – and finds that the provisions inthe CRR appear comparatively stricter than most pre-existingrequirements.Finally, we discuss how the new liquidity-related ratios could modify theaccounting choices of banks.Part 2 focuses on caveats and possible adjustments concerning thenumerator of the LCR, that is, liquid assets that banks are allowed to useto meet their liquidity buffer.We review the eligibility criteria set out by the CRR for high quality liquidassets, highlighting why they may prove inadequate in capturingsystematic liquidity risk. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 11We then discuss the appropriateness of such criteria for Europe, to findthat, unless appropriately calibrated, they may prove a major source ofdisadvantage compared to the US.Subsequently, we address the link between liquidity ratios and possiblechanges in credit risk weights for government debt, to conclude that amore risk-sensitive approach to sovereign risk weights could introduce apronounced “cliff edge” effect into the LCR and reduce the demand bybanks for government debt.Finally, we look at a specific asset class, notably covered bonds, whosefull eligibility as a liquid asset may help incentivise portfoliodiversification and keep credit flowing to European consumers.Part 3 discusses a number of potential calibrations which may beintroduced in the computation of the LCR’s denominator, i.e., the netcash outflows experienced by a bank under a 30-day distressed scenario.This includes customer deposits (where the new liquidity rules mayunduly penalise retail and commercial banks), credit and liquidityfacilities (where banks would be discouraged from holding liquidity lineswith other institutions, a key tool that can be used to ease liquiditypressures) and trade finance (where the parameters of the LCR couldprove detrimental for a low-risk industry that underpins global economicgrowth).1.4 Time to sound the alarmAs the CRR, and therefore the liquidity rules, are about to enterimplementation stage, a number of hot spots must be clearly identified tostimulate further debate and highlight the risk of unintendedconsequences.The first issue is the definition of liquid assets in the LCR and whetherthis risks being too prescriptive and rigid. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 12The Eurozone sovereign crisis has shown that liquid assets can becomeilliquid quickly, so flexibility is needed to accommodate different marketconditions and the changing economic environment.The changing risk profile of government bonds has shown how importantit is to create incentives for portfolio diversification.Another area for further consideration is the link between LCR-eligibilityand central bank eligibility.The CRR requires that liquid assets be central-bank eligible, but statesthat not all central bank collateral will be acceptable for the LCR.During a crisis, central bank eligibility is crucial in facilitating theprovision of liquidity to cash-strapped institutions and markets.The definition of liquid assets and the rules on central bank collateralneed to be looked at the same time – they cannot be regarded as twoseparate issues.Furthermore, liquidity is an elusive concept, which fluctuates over timeand cannot be predicted in infinitum.Hence, supervisors should resist the temptation to draw up lists and tocreate parameters that will stay unchanged over time.Any “black and white” approach to liquid assets’ definition will proveincreasingly unhelpful.Developing criteria that are granular enough to accommodate manydifferent scenarios would be better to provide for a smooth transition ofasset classes between different liquidity grades.Conversely, a liquidity scale which has only one or two levels is mostlikely to prompt cliff effects when changes occur in the perceivedcharacteristics of specific eligible assets. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 13Overlooking the different degrees of liquidity provided by a wide range ofinvestable assets, could result in regulators setting the threshold too highand consequently focusing on many fewer asset classes.The wish to “err on the safe side” would ultimately lead to investmentconcentration and higher risk.As concerns cash flows, no set of rules, no matter how conservative, willever isolate a bank from systemic risk.E.g., assuming that all liquidity and credit lines that an institution hassecured on the wholesale market will suddenly become unavailable in acrisis could give a false sense of security, while increasing banks’ costsand creating wrong incentives.The potential for dirigisme in the new rules should not beunderestimated, as minor changes in the factors imposed to banks(including drawdown, rollover and runoff coefficients) may cause hugeshifts of funds across business lines in a way which interferes with the freeinterplay of demand and supply.It is important to remember that the aim of the LCR is not to enablebanks to withstand liquidity pressures on their own and to survivethrough stressed scenarios without supervisory support.Rather, it is to buy time and make sure that supervisors can rescue ailinginstitutions – and possibly wind them down – without the impendingthreat of a disordered meltdown and its potentially unmanageablesystemic costs.There is a fundamental difference between liquidity as a micro and macrophenomenon.Many assets might well be liquid if one single bank needs to sell them,but can quickly become illiquid if all banks want to get cash out of them.The quest for assets which stay liquid “at all times” might provefrustrating, since under severe systemic scenarios liquidity can only be _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 14ensured by monetary authorities.Accordingly, prudential rules should not be carried too far, as providingbanks with a bulletproof jacket in times of distress may, in fact, lead toimposing a straightjacket on the everyday business of financialinstitutions and their customers.Increasing compliance costs may not only make credit more expensiveand undermine growth; it may also move intermediation towards shadowbanking, channelling money through weakly-regulated schemes whichrely significantly on wholesale funding and may prove stronglypro-cyclical.The calibrations mentioned above should be carried out by the regulatorsand policy makers with representatives of the financial industry, users offinancial services and banking scholars.The availability of reliable data sources is a major bottleneck for any effortto investigate funding and market liquidity risk; databases should beshared loyally and transparently.Any rule developed without a thorough involvement of banks and otherstakeholders is bound to prove both short-lived and short-sighted. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 15NUMBER 2Governor Elizabeth A. Duke, at the Federal ReserveBank of New York, New York, New YorkAddressing Long-Term Vacant Properties toSupport Neighborhood StabilizationGood afternoon. I want to thank the Federal ReserveBank of New York and the Rockefeller Institute for inviting me toparticipate in this importantdiscussion of distressedresidential real estate.The boom and bust in housingthat is a hallmark of the recenteconomic cycle has resulted in anunprecedented volume offoreclosures that has, in turn, leftus with an extraordinary level ofvacant and distressed properties.Even after the official end of therecession, home sales and houseprices continued to decline forseveral years, and residentialinvestment languished.All of this has resulted in a slowrecovery in housing, which is oneof the primary reasons why ouroverall economic recovery hasbeen so sluggish.In order to see the robust economic recovery we all want, we need to dealeffectively with the large volume of vacant and distressed propertiesthroughout the country.Our housing crisis has many dimensions and will require a full spectrumof policy actions to restore health to the housing market, our economy, _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 16and most importantly, to neighborhoods and communities across thecountry.The Federal Reserve System has been active in studying various aspectsof the crisis, bringing together community leaders and marketparticipants to share experiences in forums such as this, and using data toidentify areas of particular need.I have spoken in the past about credit availability, preventingforeclosures, converting foreclosed properties to rental properties, andstrategies for neighborhood stabilization.Today, I would like to focus on the problems posed by an elevated level ofvacant properties. I plan to draw on research conducted by FederalReserve Board staff and would especially like to thank Raven Molloy, aneconomist in our macroeconomic analysis group, for her work in thisarea.As I will discuss later in my remarks, the effective use of data is a commontheme among success stories in neighborhood stabilization.In the hope that the census tract data referenced in this speech might behelpful to others working to address vacancy problems, I plan to post ourdata on the Federal Reserve website along with this speech.Level and Distribution of Vacant Housing Since the beginning of this year, there have been signs of improvement inaggregate housing market conditions nationally.Sales of new and existing homes have risen and home prices have turnedupward.So far this year, house prices have risen sufficiently to move a noticeablenumber of underwater households--that is, those who owe more on theirmortgages than the market value of their homes--from negative equity topositive equity.However, housing markets differ greatly both across regions and withinmetropolitan areas, and the positive signs in the aggregate data do notapply to all neighborhoods equally. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 17For example, even within those metropolitan areas that have experiencedrising average prices over the past year, one-fourth of ZIP codes saw adecrease in prices over the same period.Moreover, those ZIP codes with falling prices have also experiencedrising vacancy rates more often than in other ZIP codes.These struggling high-vacancy areas provide evidence of the hard workthat remains even as housing markets show signs of improvement.Although many of these areas share a high level of vacancy, they differsignificantly in other characteristics: the concentration of vacancies, ageof the housing stock, cause of the problem, and even the demographics ofthe residents.By looking more closely at the differences, we will gain a betterunderstanding of these markets and of the policies or program solutionsthat will address their vacancy issues most effectively.One measure that is frequently cited when describing recentimprovements in the national housing market is the inventory of vacanthomes for sale.This measure had fallen to 1.6 million units in the second quarter of 2012,substantially below its peak of about 2 million units in 2010 and the firsthalf of 2011.However, many vacant homes are not on the market at all. These vacantunits include properties that are in the foreclosure process, bank-ownedproperties that are not yet for sale, as well as properties for which thecause of vacancy has no connection to the foreclosure process.Indeed, the stock of non-seasonal homes held off market is nearly twoand a half times as large as the for-sale vacant stock.But unlike the inventory of vacant homes for sale, this stock remainsstubbornly elevated relative to pre-crisis numbers, and has not gone downat all over the past year.Moreover, vacant units are not evenly distributed throughout the UnitedStates. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 18Some neighborhoods suffer disproportionate numbers of them.Specifically, one-tenth of all census tracts account for nearly 40 percent ofthe entire vacant housing stock.By comparison, the overall housing market is only half as concentratedwith only 20 percent of the aggregate housing stock found in the 10percent of census tracts with the largest total number of housing units.Problems Posed by Vacant PropertiesWhy focus on vacant homes?Vacant homes can be more than just an eye sore; they can havesubstantial negative impacts on the surrounding community, impactsthat are felt most acutely by the neighbors and communities that mustcope with the dangers and costs of vacant buildings.Since vacant properties tend to be concentrated in a relatively few numberof neighborhoods, some communities are adversely affected much morethan others.Homes that have been vacant for a long time tend to fall into severedisrepair.Such physical blight can invite more property crime, as vacant houses arean appealing hide-out and target for criminals, and the absence ofresidents can mean fewer eyes in the neighborhood to look out forsuspicious activity.In fact, counties that experience a large increase in the number oflong-term vacant homes tend to see an increase in burglary in thefollowing year.This correlation holds even after controlling for other countycharacteristics, such as changes in unemployment, changes inpopulation, and changes in violent crime.8In turn, blight and crime make these neighborhoods less attractive topotential buyers, renters, and businesses. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 19Calculations by Board staff indicate that ZIP codes with a larger increasein long-term vacancy experience smaller increases--or largerdecreases--in house prices in the next year.Falling home prices can harm both neighboring homeowners as well aslocal municipalities that are dependent on property tax revenue.Research conducted by the Federal Reserve Bank of Cleveland has shownthat a home that is simply foreclosed, but not vacant, lowers neighboringproperty values by up to 3.9 percent.However, if a home is foreclosed, tax delinquent, and vacant, it can lowerneighboring property values by nearly two and a half times that amount.Moreover, properties that have been vacant for a substantial period oftime can impose even larger costs on the community, and all too often,the private market is not likely to solve the problem on its own.In such cases, government authorities and public resources may berequired.Of course, not all vacant properties pose a problem for the localcommunity, as some homes become briefly vacant during the usualprocess of changes in ownership.But the longer a home stands vacant, the greater likelihood that poormaintenance and the associated problems that result can become seriousissues for the surrounding community.Statistics from the American Housing Survey show that properties thathave been vacant for longer than two years are much more likely to havesevere problems, such as cracked floors or walls, broken or boarded upwindows, and a roof or foundation in disrepair, that make these propertiesharder to rehabilitate and less appealing to prospective buyers.Segmenting the Inventory of Long-Term Vacancies Analysis by Federal Reserve Board staff has calculated the fraction ofhousing units in each census tract that has been vacant for at least twoyears--which I will refer to as "long-term" vacancy--and categorizedtracts that appear in the top 10 percent of this distribution into three types. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 20The first category of high long-term vacancy census tract is an area wherea large percentage of housing units were built post-2000, and thattherefore can be thought of as "housing boom" tracts.These locations also have a higher median income, higher median housevalue, and a larger fraction of residents with at least a college degree thanother high long-term vacancy census tracts.Examples of metropolitan areas with a large number of tracts in thiscategory are Denver, Colorado; Orlando, Florida; Las Vegas, Nevada; andPhoenix, Arizona.The second category of high long-term vacancy census tract has a largeshare of older housing stock built before 1960, low median income, a highpoverty rate, a high unemployment rate, and a large share of residentswith less than a high school degree.These tracts can be called "low demand" locations because thesecharacteristics are frequently associated with areas suffering frompersistent job loss and a decline in housing demand.Metropolitan areas with a large number of tracts in this category includeDetroit, Michigan; Cleveland, Ohio; St. Louis, Missouri; and Baltimore,Maryland.The third and final category of high long-term vacancy census tract has alow density of housing units per square mile, high shares ofowner-occupied and single-family housing units, and a high fraction ofwhite non-Hispanic residents.We can think of these neighborhoods as "traditional suburban" areas.Examples of metropolitan areas with a large number of tracts in thiscategory are Charleston, West Virginia; Des Moines, Iowa; Peoria,Illinois; and Oklahoma City, Oklahoma--locations not often mentioned innational media coverage about the housing crisis.Matching Solutions to Neighborhood CharacteristicsAs I mentioned earlier, we should endeavor to achieve full recovery in allof the many diverse housing markets around the country. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 21The private market will likely drive recovery in many locations and, inthose locations, the appropriate role of government may be to monitorlocal activity and ensure that the actions of the private markets improveneighborhoods and provide opportunity for all families, regardless ofincome, race, ethnicity, or housing tenure.However, some neighborhoods likely will not recover without theassistance of government, and in this time of scarce resources, it is criticalthat the public sector has the information and tools necessary to ensurethat any assistance that is provided is effective and efficient.Doubtless there will be costs associated with solving these problems, butit is important to also consider the costs of doing nothing.For example, it costs local taxpayers to let vacant buildings decline, itcosts money to tear them down, and it costs money to convert them to abetter use.Ultimately, a policy of neglect will be just as--or even more--costly thanfinding and implementing constructive solutions to the vacancy issue.We must ask ourselves, can we create policies that fairly distribute thosecosts?What are the limitations?What innovations can create more effective, scalable solutions? Withfunding scarce, how can we identify solutions that will ultimately be mostcost effective?To begin to answer some of these questions, I return to the typology ofvacant properties introduced earlier."Housing Boom" LocationsThe first type, "housing boom" areas, has relatively high median incomesand new housing stock.These characteristics are attractive to investors, and many investors arereportedly purchasing vacant homes and converting them to rental. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 22Given the recent tightening of the rental market, such a strategy could bea win-win scenario for communities that need more affordable rentalhomes and suffer from an excess of single-family vacant units.In fact, in January, the Federal Reserve released a staff paper on housingissues12 that went into some detail about the potential benefits ofconverting foreclosed properties to rental, and in April, the Board releaseda policy statement that outlines supervisory expectations for residentialrental activities for certain banking organizations.Phoenix, Arizona, is a good example of an area with many census tractsthat fit into the "housing boom" typology.Phoenix was one of the areas hit hard during the housing bust, with apeak-to-trough decline in prices of more than 50 percent.More recently, however, prices in Phoenix have rebounded with adouble-digit increase over the 12 months ending in July.Reportedly, much of this demand is driven by investors who areconverting vacant homes into rental properties.Direct statistical evidence on investor activity at the local level is notavailable.However, since investors tend to finance their purchases with cash orother non-mortgage financing, the level of cash purchases can provide anindicator of investor activity.In the past two years, the fraction of home purchases financed with cashin the Phoenix area was much higher than the national average.This is an example of the private market stepping in to purchase vacantunits and in turn increasing housing values.As encouraging as this trend may be, it is not a panacea. For example, it ispossible that aggressive investor activity could crowd out potentialhomeowners, especially low- to moderate-income households.In addition, investors are not interested in all markets; therefore, therewill still be some areas where private investment will not step in to curbthe problems associated with vacant properties. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 23The problem of investors crowding out local homebuyers could beaddressed through "first look" programs that provide a window, usually15 days, during which time only prospective homebuyers and nonprofitsmay bid on a property.In Phoenix, non-profit organizations and local government officials usedNeighborhood Stabilization Program (NSP) funding and enlisted localreal estate professionals to match vacant homes with eligiblehomebuyers.These are important programs. Community leaders, banks, and realestate professionals should continue to collaborate to ensure thatprospective homeowners are given a fair chance to bid on availableproperties.However, most prospective homebuyers and local nonprofits cannot bidon a property if they cannot access mortgage credit. Results from theFederal Reserves Senior Loan Officer Opinion Survey suggest that banksare less willing to provide mortgage credit now than in 2006 to borrowerswith lower credit scores or smaller down payments.We hear much the same story from community groups and housingcounselors who report that low- and moderate- income and first-timehomebuyers, especially, are finding it increasingly difficult to meet therequirements for a home purchase loan due to limited funds for a downpayment or weaker credit scores.While prudent lending may warrant tighter underwriting standardsrelative to pre-crisis levels, it is also important to ensure that tight creditdoes not unnecessarily dampen the housing recovery anddisproportionately affect creditworthy low-income and minorityhomebuyers. And without the participation of owner-occupants, it will bedifficult for many housing markets to recover.Like Phoenix, Oakland, California is also reportedly experiencing asignificant amount of investor activity that may be crowding outpurchases by prospective homebuyers and nonprofits.We hear complaints that many of these investors are not based inOakland, causing residents to express concern about external ownership _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 24of their neighborhoods and the long-term implications of absenteelandlords.In an attempt to address these concerns and provide morehomeownership opportunities to low- and moderate-income Oaklandresidents, a national nonprofit, Enterprise Community Partners, isworking with a private real estate fund to direct some of the private dollarsseeking investment properties in Oakland.The nonprofit partnership is using a complex data-driven platform toidentify targeted low- and moderate-income neighborhoods in the city,purchasing vacant properties, rehabilitating them through a localworkforce development program, and converting them to rental.The ultimate goal is to ensure that the properties remain localneighborhood assets.To achieve this, the partnership is prioritizing rentals and sales toqualified local residents or nonprofits.Such an innovative strategy seeks to complement local government andinvestor activity so that residents can share in the benefits of a housingrecovery."Low Demand" LocationsNot all markets are equally attractive to private investors, so somegovernments are developing programs to attract private capital to "lowdemand," high-vacancy neighborhoods.The city of Baltimore, Maryland provides a good example of such aprogram.Baltimore is burdened with approximately 16,000 vacant and abandonedbuildings, about a quarter of which are owned by the city.Much of this vacancy has been caused by population loss and suburbanflight--Baltimore City has lost nearly one-third of its population over thelast 50 years.However, not all parts of Baltimore have a significant number of vacantproperties. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 25In fact, only 5 percent of census tracts in the Baltimore metropolitan areahave a long-term vacancy rate in the top decile of the nationaldistribution.The city of Baltimore has recognized these micro-market distinctions andinitiated an innovative data-driven program to identify areas with a highconcentration of vacant properties and turn these properties into valuableassets.This initiative, called "Vacants to Value," uses data and targeted housingcode enforcement to foster redevelopment in areas where there is modestprivate investment interest.Using a variety of real-time data sources, this program has developedmarket typologies down to the census block-group level so that it canaccurately determine the needs of specific neighborhoods and applytargeted programs to best meet those needs.For example, the city is targeting approximately 700 vacant properties inweak market areas where large-scale investment--encompassing at least acity block--is necessary to catalyze private investment.In healthier neighborhoods, the city believes that increased codeenforcement and homebuyer or developer incentives should be enough toreduce vacancy and stabilize neighborhoods.Lastly, in Baltimores hardest hit neighborhoods, the city is demolishing,holding, or maintaining properties that are unlikely to attract any privateinvestment in the near future.Unfortunately, in some cases, vacant homes are beyond repair and willnever be habitable again.In these instances, demolition is often the best solution, and land bankscan be a good way to hold the property until it can be converted to a betteruse.A land bank is a governmental or nongovernmental nonprofit entityestablished, at least in part, to assemble, temporarily manage, anddispose of vacant land for the purpose of stabilizing neighborhoods andencouraging re-use or redevelopment of urban property. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 26Land banks have been around since the early 1970s, but the recentforeclosure crisis has stimulated the creation of several new land bankingprograms, including in New York State and Kansas City, Missouri.A key characteristic of the new generation of land banks is that they ofteninclude mechanisms to self-finance over time, including the ability torecapture a portion of the property taxes for a fixed period of time after theproperty is put back to productive use.As encouraging as these new self-financing features are, land banks andmunicipalities are still struggling with the high costs of demolition.For example, in Cuyahoga County, home to Cleveland, Ohio, about 80percent of the approximately 100 properties per month that the land bankacquires need demolition, but at $10,000 in average costs per demolition,the Cuyahoga Land Bank is struggling to find the resources to fund thisactivity.The state of Ohio recently dedicated $75 million of its direct paymentsfrom the Attorneys General (AG) National Mortgage Settlement to fund anew grant program for demolition of abandoned and vacant propertiesstatewide.This $75 million still will not solve all of Ohios demolition needs, butleveraging public and private funds like the AG settlement or developingnew national sources of bond financing could help address this localproblem.23"Traditional Suburban" LocationsThe last category of high-vacancy areas in the typology that I discussedearlier is "traditional suburban" neighborhoods.In contrast to the other two types of high-vacancy census tracts, theseneighborhoods are more evenly spread across many metropolitan areas,illustrating that vacancy can be a problem in any community.Furthermore, ZIP codes in the "traditional suburban" tracts do not tendto have a higher share of property vacancies resulting from foreclosurethan other ZIP codes, which demonstrates that some neighborhoods are _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 27struggling with long-term vacancy issues even though they did notexperience large numbers of foreclosures.While the vacancies faced by these suburban areas might not have beencaused by foreclosure problems, the costs to neighborhoods are every bitas real. Such areas represent additional opportunities to use the lessons ofthe recent crisis as local leaders strive to better understand the root causeof high vacancy levels and to target limited resources.Consider the situation faced by Oklahoma City.Oklahoma City estimates that 8,000 urban properties have been vacant formore than three years, and that the number of vacancies is increasing.The citys historically high housing vacancies mostly stem from culturaland demographic changes that have occurred over decades, as well asinadequate building code laws and enforcement.Interestingly, the area did not experience the housing boom and bust thatoccurred in much of the nation.Whereas national house prices rose by 89 percent between 2000 and 2006,prices in Oklahoma City rose by only 35 percent.In addition, house prices in Oklahoma City have been flat since 2006, asharp contrast to the large drop in national home prices.But even though the vacancy rates in Oklahoma City are not a directresult of the housing boom and bust, it may be that newer solutionsdeveloped for "housing boom" and "low demand" areas can becombined with traditional community development policy tools to helpsolve a problem that developed over decades.Indeed, city planners recently concluded that the city could not tackleneighborhood revitalization without addressing vacancies.Increasing costs for needed city services, reduced revenues, and barriersto growth resulting from deteriorating infrastructure all combined to lendurgency to these efforts.As has been the case in other cities, officials in Oklahoma City realizedthat gathering data was a necessary first step. Starting earlier this year, _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 28they embarked on an ambitious study to determine the total cost resultingfrom vacancies.The city will then use the findings from the study to support enactment oftougher code enforcement to recover lost revenue, including assessmentof fines against owners who fail to maintain their properties.This combination of new measurements and old tools to developsolutions should serve as an example to many "traditional suburban"areas around the country that have experienced, and will continue toexperience, vacancy issues.ConclusionThe potential fallout of high rates of vacancy--blight, crime, loweredhome values, and decreased property tax revenue--is the same for everyneighborhood and community.But there is no one-size-fits-all solution to the vacancy problem.Ive used some examples of communities around the country that arefacing high vacancy rates in order to illustrate their differentcharacteristics and the different origins of their vacancy problems.Taking account of such differences will be important in crafting solutionsto the problems caused by those vacancies.Hopefully, these examples and other ideas that have been sharedthroughout this conference will inspire new and creative solutions to thedifficult issues faced by communities.Certainly, different housing markets will recover in different ways and atdifferent paces. In some areas, the private market will lead the way, whilein others, government will have to use precious resources wisely tocatalyze recovery.The examples Ive discussed also illustrate the value of using data tounderstand vacancy issues, to determine which neighborhoods areexperiencing which challenges, and to design appropriate policysolutions. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 29Solving the problems of long-term vacancies will require the best effortsof public, private, and non-profit leaders locally and across the country.I can assure you the Federal Reserve System will continue to supportrecovery through the use of all its policy tools and research capacity.Thank you. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 30NUMBER 3NIST Selects Winner of SecureHash Algorithm (SHA-3)CompetitionThe National Institute of Standardsand Technology (NIST) announcedthe winner of its five-year competitionto select a new cryptographic hashalgorithm, one of the fundamentaltools of modern information security.The winning algorithm, Keccak(pronounced “catch-ack”), was created by Guido Bertoni, Joan Daemenand Gilles Van Assche of STMicroelectronics and Michaël Peeters ofNXP Semiconductors.The team’s entry beat out 63 other submissions that NIST received afterits open call for candidate algorithms in 2007, when it was thought thatSHA-2, the standard secure hash algorithm, might be threatened.Keccak will now become NIST’s SHA-3 hash algorithm.Hash algorithms are used widely for cryptographic applications thatensure the authenticity of digital documents, such as digital signaturesand message authentication codes.These algorithms take an electronic file and generate a short "digest," asort of digital fingerprint of the content.A good hash algorithm has a few vital characteristics.Any change in the original message, however small, must cause a changein the digest, and for any given file and digest, it must be infeasible for aforger to create a different file with the same digest.The NIST team praised the Keccak algorithm for its many admirablequalities, including its elegant design and its ability to run well on manydifferent computing devices. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 31The clarity of Keccak’s construction lends itself to easy analysis (duringthe competition all submitted algorithms were made available for publicexamination and criticism), and Keccak has higher performance inhardware implementations than SHA-2 or any of the other finalists.“Keccak has the added advantage of not being vulnerable in the sameways SHA-2 might be,” says NIST computer security expert Tim Polk.“An attack that could work on SHA-2 most likely would not work onKeccak because the two algorithms are designed so differently.”Polk says that the two algorithms will offer security designers moreflexibility. Despite the attacks that broke other somewhat similar butsimpler hash algorithms in 2005 and 2006, SHA-2 has held up well andNIST considers SHA-2 to be secure and suitable for general use.What then will SHA-3 be good for?While Polk says it may take years to identify all the possibilities forKeccak, it immediately provides an essential insurance policy in caseSHA-2 is ever broken.He also speculates that the relatively compact nature of Keccak maymake it useful for so-called “embedded” or smart devices that connect toelectronic networks but are not themselves full-fledged computers.Examples include sensors in a building-wide security system and homeappliances that can be controlled remotely.“The Internet as we know it is expanding to link devices that manypeople do not ordinarily think of as being part of a network,” Polk says.“SHA-3 provides a new security tool for system and protocol designers,and that may create opportunities for security in networks that did notexist before.”NoteKeccak was designed by a team of cryptographers from Belgium andItaly, they are:Guido Bertoni (Italy) of STMicroelectronics,Joan Daemen (Belgium) of STMicroelectronics, _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 32Michaël Peeters (Belgium) of NXP Semiconductors, andGilles Van Assche (Belgium) of STMicroelectronics.NoteNIST announced a public competition in a Federal Register Notice onNovember 2, 2007 to develop a new cryptographic hash algorithm calledSHA-3.The competition is NIST’s response to advances made in thecryptanalysis of hash algorithms.A cryptographic hash algorithm is a widely-used tool that creates a“fingerprint”, or a “message digest” of a file, message or block of datathat can be used for digital signatures, message authentication codes, andmany other security applications in the information infrastructure.The winning SHA-3 algorithm will augment the hash algorithmscurrently specified in FIPS 180-4, Secure Hash Standard.NIST received sixty-four entries from cryptographers around the world byOctober 31, 2008, and selected fifty-one first-round candidates inDecember 2008, and fourteen second-round candidates in July 2009.On December 9, 2010, NIST announced five third-round candidates –BLAKE, Grøstl, JH, Keccak and Skein, to enter the final round of thecompetition.The cryptographic community has provided an enormous amount offeedback throughout the competition.Most of the comments were sent to NIST and a public hash forum; inaddition, many of the cryptanalysis and performance studies werepublished as papers in major cryptographic conferences or leadingcryptographic journals.NIST also hosted three SHA-3 candidate conferences to obtain publicfeedback. Based on the public comments and internal review of the _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 33candidates, NIST announced Keccak as the winner of the SHA-3Cryptographic Hash Algorithm Competition on October 2, 2012, andended the five-year competition.Further details of the competition are available at the specific sitesindicated in the menu on the left. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 34NUMBER 4UK FSAFinancial Crime newsletterWelcome to Issue 16 of our Financial Crimenewsletter. So far, 2012 has been particularly busy forus.We have published the findings of two significantpieces of thematic work, contacted over 75,000potential victims of boiler room scams, andcontinued with our credible deterrence strategy,taking regulatory action against three financialinstitutions for financial crime failings and securingnumerous criminal convictions for insider dealing.Throughout the remaining life of the FSA, and continuing into theFinancial Conduct Authority (FCA), we will focus on tackling keyfinancial crime risks to our objectives.This newsletter confirms that we will be taking forward our intensive andintrusive work on anti-money laundering (AML), sanctions,counter-terrorist financing and anti-bribery and corruption (ABC)systems and controls in a number of very large banks.We also give more detail about our recent thematic reviews andenforcement cases.Finally, it is vital during periods of change that we remain focused andcommitted in the fight against financial crime.I am delighted to be given the opportunity to lead our work in this area asdirector of the Enforcement and Financial Crime Division. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 35I am also delighted to introduce the new Head of Department for ourFinancial Crime and Intelligence Department, Sharon Campbell. Sharonhas been at the FSA for over seven years. Before this she was Head ofDepartment in our Authorisation Division and she has over 20 years ofindustry experience.Sharon replaces Bob Ferguson, who has made a real contribution tocountering financial crime and will be missed. He will be taking a fewmonths career leave and returns in March to take up a new position in theFSA. Bob goes with all our thanks for his hard work over the years.Tracey McDermottDirector, Enforcement and Financial CrimeAnti-bribery and corruption systems and controls in investmentbanksIn March 2012 we published a report on how investment banks andsimilar firms are managing the bribery and corruption risk in theirbusiness.We found that, although some had started work to identify and assesstheir bribery and corruption risks and factor them into their ABC controls,including policies, procedures and training and monitoring programmes,most had more work to do.In particular:- most firms had not properly taken account of our rules covering bribery and corruption, either before the implementation of the Bribery Act 2010 or after;- nearly half the firms in our sample did not have an adequate ABC risk assessment;- management information on ABC was poor, making it difficult for us to see how firms’ senior management could provide effective oversight; _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 36- only two firms had either started or carried out specific ABC internal audits;- there were significant weaknesses in firms’ dealings with third parties used to win or retain business; and- many firms had recently tightened up their gifts, hospitality and expenses policies, but few had processes to ensure gifts and expenses in relation to particular clients/ projects were reasonable.We were pleased to see, however, that most firms used senior committeesto drive the ABC agenda, and generally there was an appropriate level ofsenior management involvement in decision-making about newthird-party relationships or transactions.Overall, the report concluded that the investment banking sector hasbeen too slow and reactive in identifying, assessing and managing theirbribery and corruption risk.In particular, the introduction of the Bribery Act and our visits were themain triggers for many firms in our sample to review, or consider for thefirst time, their approach to ABC.Banks’ defences against investment fraudIn June 2012 we published our report on banks’ defences againstinvestment fraud.Our review found individual staff members had a strong commitment toprotecting customers, but we saw little governance of the specific issue ofinvestment fraud.We also found that: Resource allocation was not based on risk assessments thatexplicitly considered the risk of investment fraud, so resources availablewere not the result of informed decision-making by senior management; _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 37 It was not clear to us that the banks we visited had fulfilled theirregulatory obligation to assess investment fraud risks appropriately andcounter the risk that the bank might be used to further financial crime; Banks’ ability to detect where their customers might be complicitin investment fraud was disappointing; and Ongoing monitoring of customers was often the responsibility ofcustomer-facing staff with many other responsibilities, who often lackedthe experience or knowledge to identify investment fraud.More positively, we saw a range of transaction-monitoring technologies.Some banks had used these successfully to prevent customers fallingvictim to investment fraud.We also saw good examples of banks maintaining intelligence oninvestment fraudsters, although measures were not consistent across theindustry. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 38NUMBER 5EBA Work Programme 20131. IntroductionIn accordance with Regulation (EU) No 1093/2010 of the EuropeanParliament and of the Council of 24 November 2010 establishing theEuropean Banking Authority (EBA), the annual work programmedescribes and summarises the main objectives and deliverables of theEBA in the forthcoming year derived from the tasks specified in theRegulation and from the relevant EU banking sector legislation.Following a discussion of a draft version by the EBA Board of Supervisorsin summer 2012, and by the Banking Stakeholder Group, the WorkProgramme was reviewed by the Management Board who proposed itsadoption.Based on this proposal the Board of Supervisors adopted the 2013 workprogramme at its meeting held on 25-26 September 2012.The work programme aims to define the main objectives andcorresponding priorities of the EBA for 2013 in fulfilment of its overallmandate.The fundamental objective for the EBA in the regulatory policy area willbe to play a central role in the development of the single rule book, withthe aim to contribute to achievement of a level playing field for financialinstitutions as well as to raise the quality of financial regulation and theoverall functioning of the Single Market.The EBA’s work in this area relates in particular to the CRDIV/CRRlegislative framework, including liquidity and remuneration, as well as tothe crisis recovery and resolution legislative framework.The EBA’s oversight activities will focus on identifying, analysing andaddressing key risks in the EU banking sector, including analysing theconsistency of outcomes in risk weighted assets (RWAs), the _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 39sustainability of banks business models and reviews of banks’ assetquality, promoting supervisory cooperation and convergence andcontinuing its work in colleges of supervisors to strengthen Europeansupervision of cross-border banking groups.Last but not least, the EBA is committed to enhance the consumerprotection and promote transparency, simplicity and fairness forconsumer financial products and services across the Single Market, andas such will focus its consumer protection activities on developingguidelines on responsible mortgage lending, and on arrears handling andforbearance in the mortgage market, and regulatory technical standardson Professional Indemnity Insurance.The above three areas - Regulation, Oversight, and Consumer Protection- are representing the core functions of the EBA that are laid down in theEBA regulation.For these, a detailed list of tasks including a breakdown of deliverables isalso provided. Further, a separate horizontal unit, Policy Analysis andCoordination, provides the internal and external policy coordinationbetween the core functions of the EBA and external stakeholders, as wellas provides the legal review and assesses the impact of the EBA’s policyproposals.The support functions summarised as Operations are playing a criticalrole in ensuring that the EBA can perform its core functions, and thus,their main working objectives are also summarised.The year of 2013 will be the third year of operation for the EBA as afully-fledged EU Authority in the new European System of FinancialSupervision (ESFS).Therefore, emphasis continues to be on the continuing development andstrengthening of the EBA’s institutional capabilities.In addition, there are significant new legislative proposals in Europeanbanking regulation and supervisory architecture, including the BankingUnion and the Recovery and Resolution proposals, on the EU’s agenda,some of which have already been published but not yet adopted, and _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 40some are expected to be published in the near future, but all having amajor impact on the amount and priorities of specific tasks of the EBA in2013 and thereafter.The Banking Union will have important repercussions on the mandate ofthe EBA, as it will call on the Union for an even stronger commitment tothe single rule book and unified supervisory methodologies, with a viewto avoid polarisation of the Single Market between the euro area, and itsapplication of single supervisory rules and practices, and the rest of theUnion.A detailed list of the EBA’s tasks is presented in the Annex with attachedpriorities.Generally, tasks deriving from a legislative proposal with a deadlinefalling in 2013 are assigned priority 1; priority 2 tasks will only beaccomplished in as far these do not constrain the priority 1 tasks.Due to the high number of priority 1 tasks in 2013, significant increase inhuman resources is needed to allow the EBA to fully address priority 2tasks. Priority 3 tasks will most probably not be accomplished in 2013.Please note that some of the items attributed to European Commission(EC)’s legislative proposals might change given these proposals arecurrently under discussion.In order to enable EBA to deliver its 2013 work programme, EBA willneed to increase its staffing levels and budget accordingly.In 2013 staff numbers are expected to grow from 68 in 2012 to 93Temporary Agents, in line with the approved Establishment Plan and thebudget from €20.7 million in 2012 to €25 million.EBA will continue to be funded by the EC and the National CompetentAuthorities. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 412. Regulatory workThe main objective of the EBA in the regulatory policy area is to play aleading role in the creation of the single rule book for the EU bankingsystem.The main focus of the EBA’s regulatory work in the coming years will bein two major areas in line with the EU legislative agenda.Tasks that are outside of these two areas have also been identified andlisted in detail in the Annex.Firstly, and most importantly the ongoing financial crisis has showndeficiencies in the prudential rules regulating banks which have resultedin adverse consequences to the financial soundness of individualinstitutions and to the international financial system.An agreement has been reached at global level to repair the regulatoryshortcomings leading to the recent set of prudential rules under theumbrella of the Basel III agreement.The EU is committed to introducing this prudential frameworkthroughout the Single Market, and are due to adopt by end 2012 EUlegislation/regulation that aim to implement Basel III in the EU on 1stJanuary 2013.The EBA is to play a crucial role in the technical implementation andapplication of this new set of regulatory rules, and will therefore focus itswork in this context on accomplishing the drafting of binding technicalstandards under the new CRDIV/CRR framework.Given these legislative proposals are still to be adopted, and hence theirfinal details remain unknown, this presents significant uncertainty inEBA’s work programme at this juncture, together with planning andresource complexity to the EBA’s organisation given theirimplementation remains to be from 1 January 2013. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 42On the expected CRR/CRDIV related tasks the EBA has taken apragmatic approach and considered as a basis the Council’s proposal ofMay 2012.The EBA has not included any additions or deletions proposed by the EUParliament although it has considered a few additional tasks in theCouncil’s proposal that are likely to be deleted.In addition, those deliverables with deadline of January 2013 or December2012 that EBA expect to deliver to the EU Commission, or publish beforethe end of this year, have not been included.As a result about 164 deliverables are expected from the EBA.The majority of these products relate to the development of more detailedtechnical rules mostly via the development of binding regulatory orimplementing technical standards.Other types of deliverables include guidelines, reports, opinions,mediation activities, or the receipt and processing of notifications.A summary is shown in the table below, and a detailed breakdown in theAnnex.It should be noted that this part of the work programme will need to beupdated after the final text of the CRR/CRDIV becomes available. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 43In addition to the high number of deliverables in relation to the CRR/CRDIV proposals, the timing of these products is very concentrated asthe implementation schedule needs to remain consistent.Most products are expected to be finalised by 2013-2014, thus, theconcentration of the EBA’s regulatory work will be very high in the courseof 2013.The sheer number of tasks as well as the concentration in their timingunderlines the importance of prioritisation.Based upon the capacity available at both the EBA and at the nationalauthorities, it is expected that not all activities can be undertaken ascurrently proposed without additional human resources at the EBA.Given the need for a strict prioritisation, the following policy areas havebeen identified where the EBA can provide the highest added value viaextended technical rule making:Capital: better quality capital is one of the key characteristics of the newcapital framework.Following the EBA consulting on many proposals for technical standardson own funds in 2012; this area will remain of priority for EBA in 2013,with a focus in 2013 on the permanent monitoring of the quality of capitalinstruments.Liquidity: the crisis has shown how important it is for banks to havesufficient liquidity available, both for the short and longer term.The CRR/CRDIV will adopt the basic framework in the form of aLiquidity Coverage Ratio and a Net Stable Funding Ratio which havebeen agreed upon globally.This gives the EBA the task of preparing the calibration of the ratiocomponents including assessing the consequences and impact ofintroducing these liquidity measures. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 44Remuneration: the crisis has shown that adverse personal incentivescould lead to risk prone behaviour.Therefore, specific rules on remuneration have been established.Based on EBA Guidelines already published EBA will undertake somedata exercises to benchmark trends in remuneration at Union level, and inrelation to disclosure on information on High-earners.Further EBA will develop Technical Standards in relation to the criteriafor the identification of risk takers, and the determination of the variableand fixed aspects of the remuneration.Leverage ratio: the leverage ratio is intended as a back stop forinstitutions that are excessively leveraged, as excessive leverage isgenerally considered to have played a major part in the financial crisis.Based on the leverage ratio reporting, the impact of introducing theleverage ratio has to be assessed by the EBA.This activity will therefore build on the leverage ratio reportingframework developed at the EBA and continue in 2013, with deliverablesexpected from 2014 and onwards.Given EBA’s mission is to develop practical instruments and convergencetools to promote common supervisory approaches, the EBA will also takedue care of implementation issues when entering the transitional phase ofnew legislation.In particular EBA will provide explanations when it comes to theimplementation of the CRDIV/CRR and develop specific tools andpolicy to answer questions.In addition to its mandated regulatory technical contribution, the EBA isproviding technical input to help framing targeted provisions onsupervisory matters. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 45Moreover, the small and medium enterprises (SMEs) sector retains aparticular attention.The crisis has shown that many SMEs have difficulty to access finance,and this is viewed as an obstacle to the recovery in the European economyand has triggered several calls for action, also in the area of bankingregulation.The EBA is working on a review of the prudential framework for SMElending as a contribution to legislative proposals.Secondly, the crisis has shown a need for more advanced and coordinatedcrisis prevention and crisis resolution arrangements and tools, so as to beable to detect a crisis event earlier, intervene more adequately and resolvetroubled financial institutions more efficiently.In June 2012, the EU Commission published its legislative proposals onan EU framework for recovery and resolution of credit institutions andinvestment firms, which provide a key role for the EBA, both in settingfurther technical standards and guidelines, including in relation to thecontent and assessment of recovery and resolution plans; the applicationof early intervention measures; preventative (structural) measures toensure resolvability; application of specific resolution powers in respect tospecific resolution tools; recognition of third country resolutionproceedings, and provide a role for EBA in the coordination andparticipation in cross border crisis events through its participation in theresolution colleges.3. Oversight workThe EBA’s oversight activities in 2013 will focus on identifying, analysingand addressing key risks in the EU banking sector.After a successful recapitalisation programme in 2012, the EBA willcontinue to monitor capital levels and banks capital plans to strengthentheir capital position further, as they move towards the implementation ofCRD IV. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 46The next EBA EU wide stress test, planned for 2013, will be a keycomponent in assessing such plans.The EBA will also continue to work with relevant competent authoritiesto understand the impact of deteriorating asset quality on banks’ balancesheet and to promote the ongoing process of balance sheet repair andbanks’ efforts to restore sustainable funding structures will be a focus ofanalysis.The EBA will continue its regular thematic analysis on a number of areasincluding the consistency of outcomes in risk weighted assets (RWAs),the sustainability of banks business models and reviews of banks’ assetquality.Regular products will include frequent funding and liquidity updatesdrawing on supervisory and market intelligence, semi-annual bankingsector reports to the Board of Supervisors, to the Economic and FinanceCommittee (EFC) - Financial Stability Table (FST), and quarterlyupdates to the ESRB.In the area of reporting and transparency the highest priority will be theimplementation of the common reporting framework, COREP andFINREP, and providing assistance with any implementation issues aswell as further assessing and strengthening transparency across the EUbanking sector.In turn the EBA will use supervisory data along with market intelligenceand input from colleges to prepare risk assessment reports for theEuropean Parliament, the Commission and the ESRB.Cross sectoral risk reports will continue to be prepared in collaborationwith the Joint Committee, and will be sent to the EFC-FST.The EBA will also maintain and further develop its key risk indicators andits suite of risk dashboards, including internal EBA bank leveldashboards, peer group dashboards to be shared with supervisorycolleges/NSAs and a sectoral dashboard for EBA and ESRB discussions. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 47The EBA will also continue to promote the convergence of supervisorypractices across the Single Market, by contributing to the development ofthe single rule book and also to the development of the supervisoryhandbook.This objective will be pursued through effective bilateral and multilateralexchange of information between competent authorities as well as morestructured stock-takes of supervisory practices in specific areas, such asframeworks for the analysis of risks, ICAAP assessments and Pillar 2decisions.As the result of these activities, papers summarising the best practicesand guidelines will be drafted.The organisation of technical training for the supervisory staff ofcompetent authorities will contribute to foster a common supervisoryculture in the EU.The EBA will continue its work in colleges of supervisors to strengthenEuropean supervision of cross-border banking groups.EBA staff will participate, support and monitor colleges.Higher quality, more detailed feedback and advice on the functioning ofcolleges will be focused on a prioritised set of 40 banking groups.The EBA will, where appropriate, apply its role in binding mediation, andactively facilitate and, where deemed necessary, coordinate any actionsundertaken by the relevant national competent supervisory authorities, incase of adverse developments/crisis situations.In crisis management, in addition to its extensive regulatory role, theEBA will have a significant role in engaging in, and assisting, thediscussions and agreement on recovery and resolution plans betweenrelevant competent authorities, including in resolution colleges.Where disagreements arise, the EBA will play a role in settling them.Based on these priority tasks the EBA aims to achieve its objectives to _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 48(i) deliver independent and high quality analysis of EU banks and the EUbanking sector, in coordination with the work of Competent SupervisoryAuthorities, the ESRB and EU policy making bodies, and leading toconcerted policy responses(ii) ensure relevant and sound data is available for effective supervisoryoversight and market discipline to(iii) further promote supervisory convergence and the building of acommon supervisory culture across the single market(iv) assist and monitor Competent Supervisory Authorities in buildingcollege structures that are efficient and substantive.4. Consumer Protection workIn the area of consumer protection, the EBA has an EU-wideresponsibility and is fully committed to promoting transparency,simplicity and fairness in the market for consumer financial products orservices across the Single Market.The EBA has established an independent organisational unit forconsumer protection.In 2013 the Unit will continue to collect, analyse and report on consumertrends and analysis of banks activities in structured products and theretailisation thereof.Further, guidelines on responsible mortgage lending, and on arrearshandling and forbearance in the mortgage market, and regulatorytechnical standards on Professional Indemnity Insurance will be finalised- subject to the proposed Mortgage Credit Directive.In addition, analysis of consumer detriment issues in the area ofnon-mortgage credit and potentially the development of guidelines onspecific risks will be performed. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 49The Unit will continue monitoring new and existing financial innovationwith a view to promoting the safety and soundness of markets andconvergence of regulatory practice.Finally, a Consumer Day will be organised in 2013 jointly with theconsumer units of ESMA and EIOPA, following on from the EBA Day onConsumer Protection on 25 October 2012.5. Policy Analysis and CoordinationThe main objectives of the EBA’s Policy Analysis and Coordination Unitwill be to provide the legal analysis of the policy and supervisorydocuments prepared by the regulation and the oversight clusters(technical standards, guidelines, opinions, supervisory recommendations,dispute resolution, peer review etc), the impact assessment of the samedocuments/actions when needed, and the internal and externalcoordination of the EBA’s policy and supervisory work when neededbetween clusters/units and with external bodies, such as BCBS and IMF,and institutions, including the EU Commission, the Council (and its EFCand FSC), and the EU Parliament (and its ECON Committee), and theEBAs contribution to the review of the ESFS.This Unit’s work also includes the coordination of the EBA’s supervisorytraining activities offered to NSAs, and providing support to the EBA’sBanking Stakeholder Group, to the EBA’s Review Panel and to the ESAs’Board of Appeal. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 50 6. Operations and institutional capabilitiesThe overall objective of the institutional development of the EBA in 2013will be the maintenance and further enhancement of the internal controlenvironment in a period of intensive build-up and growth of the recentlyestablished EU institution.The EBA has adopted and implemented the most important EU HRregulations and procedures and continues to operate under the generalEU HR rules.In light of the expanding workload arising from the EBA’s core functions,recruitment and integration of new staff will continue to be a key priorityin 2013.Detailed staffing plans for 2013 will be finalised as soon as the 2013 annualbudget of the EBA is approved. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 51Due to the significantly higher than expected workload resulting from thetasks related to the CRDIV /CRR and Bank recovery and resolutionproposals, additional human resources have been requested compared tothe establishment plan of the organisation, the approval of which is stillpending.Significant new technical skills will need to be built up in the organisationin 2013 such as broadening and deepening the technical knowledge andexperience of EBA’s experts.Therefore, in addition to the careful recruitment of new staff, the rolloutout of the recently launched staff training program shall contribute todeveloping EBA staff.The EBA is expected to implement a long term solution for its officeneeds, after an approval in the second half of 2012.A key operational priority for 2013 will be the approval andimplementation of the EBA’s medium and long term IT strategy, in linewith the expanding IT requirements that are defined by the widenedscope and depth of the EBA’s core functional tasks. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 52NUMBER 6Introductory Remarks atSEC’s MarketTechnology RoundtableBy Chairman Mary L.Schapiro, U.S. Securities andExchange CommissionWashington, D.C.Good morning. Thank you toall of the panelists for takingtime to share your thoughts with us on market technology. And thank youto those who have already written in with your comments. You have givenus a number of very thoughtfulrecommendations.To an extraordinary extent, the stability ofour securities markets is tied to thetechnological infrastructure of thosemarkets.As with virtually every industry, technologybrings many benefits. And our markets areno different.Thanks to technology, our securitiesmarkets are more efficient and accessiblethan ever before.But we also know that technology has pitfalls. And when it doesn’t workquite right, the consequences can be severe.Just imagine what can happen:If an automated traffic light flashes green, rather than red.If a wing flap on a plane goes up rather than down. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 53If railroad track switches and sends the train right, rather than left.Similarly, there can be significant consequences for technological errorsin our markets as well — trading can be disrupted, investors can sufferfinancial loss, firms can be imperiled, and confidence in our marketsbroadly can erode.Today’s roundtable will help us think through the issues and the steps weneed to take to ensure that our markets remain the most robust, efficient,and stable in the world.There are two basic concerns we need to focus on that are highlyinterrelated — these are:First, the structure of our markets, such as multiple execution venues, thepresence of high frequency trading, dark pools, and the like.Second, the infrastructure of our markets, as in the technology thatundergirds trading activity.Market StructureTo provide some perspective — in January 2010, I asked the staff to begina comprehensive review of the equity market structure.It was a review that included getting views on everything from the impactof high frequency trading, to the continued rise of dark pools, to thecomplexities of a multi-venue market system.The focus was not so much on the infrastructure of our markets but onthe way the markets and market participants operate and behave.Four months later, when disorderly trading activities in the S&P e-minimarket spread to the equities market, causing what is now known as theFlash Crash, we — as an agency — were well-positioned to respond.Working with the exchanges, we quickly put in place a series of measuresthat have since helped to reduce the likelihood of another event like thatfrom occurring.Within days of that event, I summoned the heads of every exchange to theSEC to hammer out common-sense approaches to bolster our markets. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 54And as a result of our efforts:- We now have in place single-stock circuit breakers to prevent stocks from falling too far, too fast, and we have approved a more advanced limit up/limit down mechanism to limit excessive volatility.- We now have in place a ban on stub-quotes and rules clearly defining when a trade can be broken so as to help avoid circumstances that can lead to disorderly trading.- We now have in place rules banning naked access and requiring rigorous pre-trade risk controls designed to help mitigate disruptive trading at the source.- And we now have rules requiring large traders, many of whom use high frequency trading strategies, to identify themselves so that the Commission can better monitor and analyze their trades — a process that other regulators overseas are beginning to emulate.Additionally, and perhaps most importantly, we have adopted a rule thatrequires SROs to develop plans for the first ever consolidated audit trail— a feature that will allow regulators to surveil and reconstruct tradingacross platforms.But there are issues around market structure and the conduct of marketparticipants that we should further examine, including the high volume ofcancellations, a proliferation of order types, transparency, high frequencytrading generally, potentially manipulative trading strategies, and datalatencies for public investors — to name a few.These issues still require attention and we are committed to addressingthem.Market InfrastructureBut today’s roundtable will focus more specifically on infrastructure notonly because of its importance, but also because I worry that this issue isat risk of being lost and subsumed by the broader debates regardingmarket structure. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 55After all, issues that get lost often do not get resolved. And these mattersof infrastructure are essential to any holistic approach to improving howour markets operate.IPOsConsider for a moment the IPO of BATS on its own exchange, and theIPO of Facebook on the NASDAQ exchange.Though there are many views regarding the fragmented nature ofsimultaneous trading across multiple venues, I believe these IPO eventsevidence a very different set of concerns.Both events involved one of the few single-exchange processes thatremain in an otherwise fragmented market — namely, building a singleorder book and crossing trades at a single price to open trading for a newpublic company.In the case of BATS, it was a flaw in new software code designed toconduct a corporate IPO auction.That mistake caused the matching engine for tickers in a certain range toenter into an infinite loop, making these tickers, which included thesymbol for BATS itself, inaccessible on BATS.In the case of NASDAQ, the IPO software was designed to acceptcancellations submitted while the final IPO price — or the Cross — isbeing calculated.Cancellations received during this time changed the order book. Bydesign, the system recalculated the final IPO price to factor in the newstate of the book.But again, changes were received before the system could print theopening trade, which resulted in additional re-calculations. Thiscondition persisted, resulting in further delay of the opening print.These single-exchange problems are not a result of complexities orfragmented markets, but rather a result of more basic technology 101issues. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 56Knight CapitalConsider as well the events this summer with Knight Capital — a tradingfirm that had just installed trading software that was intended to sendorders to the NYSE’s new Retail Liquidity Program.Instead, the software wound up sending “a ton of orders” into the market.As the market data that morning revealed, the software did not createpatterns of rapid orders and cancels.Rather, the data showed a massive amount of orders resulting in executedtrades that caused Knight Capital to accumulate significant andunwanted positions.This type of problem, as with the IPO mishaps, was the result of basictechnology 101 issues.Events like these demonstrate that core infrastructure and technologyissues can be problematic in any market structure.However, though for today we are focusing on infrastructure issues, it isimportant to recognize how the overall structure of our markets can affecthow our infrastructure is designed and implemented.For example, we have a very competitive market environment in whichrapid innovation and speed-to-market may compete with diligent testingand validation of the technologies that support such innovation.Our multi-venue, interlinked market structure also means that aninfrastructure failure by one party or at one venue may cascade into othervenues and affect many other parties.And of course the inherent speed of trading, which itself is partly a resultof the competitive nature of our markets, means that even small,short-lived infrastructure issues can cause drastic harm.SEC ActionsTo be sure, several of the measures we have already approved have helpedto strengthen our markets even in the face of potential, and inevitable,technological errors. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 57Indeed, several of the post-Flash Crash reforms such as the revisions tothe clearly erroneous rules helped limit the impact of the Knight Capitalepisode on other market participants.But limiting any harm resulting from technological errors is not as goodas preventing the error in the first place — which is why we haveinstituted clear rules that require firms with access to our markets to havecontrols in place to reduce the chance of such errors.But perhaps the strongest message from the Knight Capital episode isthat the party committing an error may very well l end up bearing amassive financial loss.That, more than anything, sends a wake-up call to the entire industry.Nonetheless, our concern is not whether a single firm might fail, butwhether it causes collateral damage to investors and their confidence inthe integrity and stability of our markets.So I am pleased that the industry has been working overtime in theaftermath of the Knight Capital episode to address these issues — and Iam pleased our roundtable has spurred such discussion.ConclusionBy focusing on the underlying nature of these incidents, and hearing, aswe are today, from experts in technology, I hope we can address theseissues in an efficient, effective, and expeditious manner.I now will turn it over to Robert Cook, Director of the Division of Tradingand Markets, and his staff who will serve as moderators of today’sdiscussion. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 58NUMBER 7Why we should beinterested in the history ofcurrenciesAddress by ErnstBaltensperger Presentation of“Der Schweizer Franken – eine Erfolgsgeschichte”The history of a country – and of its population and institutions – providesus with potential lessons for the present.But that is not the only reason why it is of interest to us.When we bear in mind the multitude of ways in which the present reflectsevents of the past it becomes clear that history is far more fundamental.Decisions by our parents, grandparents and their ancestors, along with allthe events of their own times which they could not influence, areresponsible for the world in which we live today.In this way, present and past are inseparably linked. The former cannotreally be understood without knowing the latter. Seen from thisperspective, studying history should be a necessity – something that goeswithout saying.Yet, above and beyond this, it is legitimate and reasonable to pose thequestion as to what specific insights and lessons for modern life can bederived from our study of history.Certainly, the world moves on continually and the problems of the presentalways differ in one way or another from those of the past.Nevertheless, many aspects remain more or less unchanged over longerperiods of time, and many questions recur in slightly altered forms in laterperiods. In this sense, we can certainly learn from history. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 59The history of the Swiss currency offers a wide variety of experiencesrelating to numerous questions which, especially in view of the currentupheaval in worldwide money and financial markets, are once againhighly topical. I would like to pick out seven different areas.1. The vital importance of political and financial stability for therise of the Swiss francAt its conception, the Swiss franc was not necessarily predestined tobecome one of the most stable and successful currencies of the world.Created through the Federal Coinage Act of 1850, two years after thefoundation of the modern federal state of Switzerland, the new Swiss francwas essentially a satellite of the French franc.This continued for the first fifty years of its life until the establishment ofthe Swiss National Bank in 1905–07.This situation reflected not least the initial softness of the newlyestablished currency.During this period, the Swiss franc often tended to be weak against theFrench franc and, in the decades before the First World War, featured aninterest rate surcharge or malus with respect to the French currency,rather than the interest rate bonus which we are familiar with nowadays.Since the outbreak of the First World War, the value of the Swiss franc hasrisen hugely against all the major currencies.In 1914, the US dollar was worth CHF 5.18; in 2011, by contrast, it could bepurchased for just over 80 Swiss centimes at times.The relative loss of value was much greater in the case of most othercurrencies.In 1914, the pound sterling was worth just over CHF 25; now it stands ataround CHF 1.50. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 60The relative loss of value is particularly pronounced in the case of theformer partner currencies in the Latin Monetary Union – the French francand, even more extreme, the Italian lira, whose value in Swiss francs at theintroduction of the euro in 1999 had to be measured in terms ofthousandths.The advance of the Swiss franc from a French franc satellite to anindependent and strong investment currency of international importancewent hand in hand with Switzerland’s political and social consolidationand its increasing economic success.Its firm determination to remain independent and to maintain financialand monetary stability – traits that have always been particularlycharacteristic of Switzerland when compared to other countries – played akey role in this respect. It is hard to establish and maintain a stablemonetary order in a war-torn social and economic environment.And the fact that Switzerland has been spared the turbulence of war forone and a half centuries – due to both political prudence and fortuitouscircumstances – has naturally been an important contributory factor inaccumulating the capital of stability and trust from which the Swiss francis now benefiting.2. Monetary, financial and economic stability are interwovenIt is certainly true to say that the currency’s stability has benefited fromSwitzerland’s political and economic success.At the same time, however, the focus on stability in the monetary field hasmade a substantial contribution to political and economic consolidation.The two go hand in hand.Steady money and well-functioning, efficient financial structures areamong the most important achievements of our economic and socialsystem. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 61A stable currency, in particular, is one of our most valuable public goods,comparable with a well-functioning system of law, public security orfinance and taxation.Without it, a liberal economic and social order cannot develop effectively.Economic history is full of examples that show the way in whichproblematic or, indeed, failing currencies have disastrously impaired theefficiency of economic systems and, in extreme situations, led toeconomic and political ruin.In the course of the 19th and 20th centuries, Switzerland succeeded – tosome extent through painful experience – in creating institutions andsystems that proved robust and resistant to this danger.The strong Swiss awareness of the fundamental social importance of themonetary order, and of its stability and reliability, has made a strongcontribution to this development and thus to the economic and politicalsuccess of our country since the establishment of the Confederation.3. Metal-based versus paper-based currenciesTogether with many other countries, Switzerland made the transitionfrom a metal-based currency to a purely paper-based currency during thecourse of the 20th century.The clearest and most definitive break in this process was the worldwidetransition to flexible exchange rates after the breakdown of the BrettonWoods period at the beginning of the 1970s.The end of the traditional metal-based currency systems actually datesback to the early years of the century, when the international goldstandard broke down following the start of the First World War.However, currency arrangements in the years between the two world warsand during the Bretton Woods system of the postwar decades remainedstrongly influenced by the gold-currency idea, and maintained importantelements of the metal-based currency and a link to gold. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 62The transition from fixed to flexible exchange rates at the beginning ofthe 1970s represented an enormous increase in power for central banks,while, at the same time, vastly extending their public accountability.Not until they were freed from the responsibility to maintain gold parity –and the obligation to subordinate monetary policy to the need formaintaining the balance of payments in equilibrium which this entailed –were they fully able to conduct an autonomous monetary policy geared todomestic targets.This brings advantages, with the disappearance of the restriction impliedby a fixed link between money in circulation and the available volume ofthe associated currency metal, but also considerable temptations andrisks.The scepticism already expressed by Niehans in the late 1970s withregard to a purely paper-based money standard is not without a certainjustification.Yet – as he then wrote on commodity, or metal-based, money – “from apractical point of view, commodity money is the only type of money that,at the present time, can be said to have passed the test of history inmarket economies” (Jürg Niehans, The Theory of Money, 1978, p. 140).Not for nothing can the 20th century be described as the century ofinflation.The experiences of the most recent financial and debt crisis, in particular,have again raised doubts about the current paper-based money system.Nevertheless, proponents of metal-based currency systems would do wellto remember that even these kinds of systems can lose their stabilityanchors – and have often done so.The history books are full of cases where the value of coins deteriorated,or where supposedly fixed metal-based parities were abolished orchanged for reasons of political expediency. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 63Consequently, we should try to avoid a romantic view of metal-basedcurrencies.These currencies are based on a self-imposed commitment on the part ofmonetary authorities to maintain a fixed metal content of the currencyunit ‘for all eternity’.Self-imposed commitments are valuable and useful.They establish barriers that provide protection from overly opportunistchanges. But ultimately they are only as valuable as the determination tocomply with them.Moreover, even metal-based currencies do not provide an unlimitedguarantee of price stability.Only where the real structures of an economic system remain constant isthis strictly the case.However, if there are shifts in the productivity of metal mining, or if thereis a growth-based increase in periodic supplementary demand forcurrency metal, there may be permanent alterations in the price level,even under a metal-based standard.What is more, one need only examine the history of the Swiss currencyduring the 19th century to find manifold illustrations of the fact thatmetal-based currency systems can be associated with inefficiency andinstability.4. Competition and monopoly in money and currenciesThe choice between competition or monopoly in the area of money andcoinage is one that has been exercising minds for a very long time.Should governments be granted a monopoly over the currency, banknotesand regulation, or is it preferable that free competition exist between theissuers of currencies and money? _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 64The question of competition and monopoly arises at various levels.At the most basic level, it concerns the definition of the currency unit andthe issuance of coins.Next, it relates to the issuance of paper money in the form of banknotes,and finally, it involves the creation of money in the form of bank deposits.The history of the Swiss currency in the 19th century provides a treasuretrove of different experiences in this regard.Historically, the view became clearly established that currencies, withtheir strong network effects, display aspects of a public good and thatthey therefore naturally tend in the direction of centralisation andmonopolies.In the current period, too, scholars’ assessments more or less confirm thisposition.The history of the Swiss currency is consistent with this point of view.After its introduction in 1850, the new Swiss franc rapidly established itselfas the national currency, without any difficulties.Clearly, the transition from the previous chaos of multiple coinage andcurrencies to a uniform national currency met a real need, and made along-term contribution to the efficiency of the Swiss monetary andpayment system and the productive strength of the Swiss economy as awhole.In the previous period, from 1820 to 1850, Switzerland had provided a rareexample of true currency competition, with a free choice betweencurrency denominations comparable to Hayek’s proposal of 1978.The lack of any national currency unit gave independent note-issuingbanks complete freedom to choose the basis on which they issued theirbanknotes. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 65This competition was successful insofar as the purchasing power of theissued banknotes remained stable and there were no bank failures orcrises.However, the money created by the issuing banks was put to relativelylittle use – an indication of its lack of attractiveness or efficiency inpractice.This phase came to an end with the introduction of the new Swiss franc in1850.From 1850 to 1881, the Swiss currency system – which now featured onecommon, dominant currency, the new Swiss franc – was characterised bycompetition between independent note-issuing banks (both private andpublic).Until the Banknote Act of 1881, however, the banking system remainedlargely unregulated. Measured by the criteria of financial and currencystability, this competition between issuing banks while banknotes werebeing freely issued did not have any negative consequences.In this respect, therefore, it can be judged to have been successful.Nevertheless, if we consider that, for a long time, banknotes played arelatively minor role in the Swiss payment system and that the resultingmonetary system was characterised by major shortcomings as regardsefficiency, and, in particular, the acceptance and reciprocal recognition ofbanknotes, this conclusion is put in perspective.The shortcomings meant that there was a tendency for common qualityrequirements to be introduced, either through regulatory interventions orvia cartel-type agreements (‘concordats’, compacts).From 1881, statutory requirements placed severe restrictions on thereserve, liquidity, encashment and issuance policies of banks.Until 1905, a policy of limited banking freedom prevailed. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 66This featured a system with a joint currency – now compulsory – as wellas heavily regulated banknote transactions, but as yet no state banknotemonopoly.Although the banknote ‘homogenisation’ achieved through thisregulation promoted the acceptance of banknotes as well as the efficiencyof the monetary and payment system, competition was no longer in aposition to carry out its disciplinary function in this environment.As a result, too many banknotes were issued and the monetary andcurrency system was weakened.This was the situation which finally led to the establishment of the SwissNational Bank and the centralisation of banknote issuance.Ultimately, therefore, the cause of the move towards centralisation wasthe pursuit of efficiency and stability – consistent with the idea of moneyas a natural monopoly.Although the system based on competition worked, it displayedshortcomings in terms of efficiency.Consequently it gave rise to regulatory interventions which, in their turn,destroyed the foundation for the disciplinary effect of competition andfinally led to centralisation.5. The importance of monetary stability as the main target ofcentral bank policy in a paper money systemThrough the transition to a purely paper-based currency lacking a link togold or any other currency metal, the position and importance of thecentral bank and its policy changed fundamentally.This applies to Switzerland just as it does to other countries.Previously, the rules of the metal-based currency, under which money incirculation was tied to the available supply of the associated currency _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 67metal, automatically ensured the long-term stability of the value of money(the price level).Once this link disappeared, this was no longer the case.Ensuring and reinforcing the stability of the value of money became theoverriding, central task of central banks.In a purely paper-based money system, the central bank’s capacity forcreating money is, in principle, unlimited.Monopolies can give rise to misuse, even in the case of state currencymonopolies.It is not hard to find examples of this if we look back through the historybooks, although luckily none have occurred in our own country.How can we ensure that the central bank will meet its responsibilities,withstanding the temptation to abuse its powers and over-issue?From today’s vantage point this can best be achieved with clearconstitutional and statutory standards and specifications which committhe central bank to a precise mandate in its policymaking, and areassociated with a duty of accountability with respect to the general publicand the world of politics.In the past, central banks often pursued a large number of targets (asspecified by their mandates) including price stability, full employment,growth, a stable exchange rate and equilibrium in the balance ofpayments.However, over time, it became evident that through the simultaneousdetermination of a large number of – often irreconcilable – targets,monetary policy was being overloaded.Fundamentally, this approach was making the central banks’ monetarypolicy task arbitrary and meaningless. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 68It is obvious and logical that ensuring the long-term stability of the pricelevel be established as the main task of monetary policy, in other words,that the central focus of monetary policy should be the task which onlythe central bank and no other political or economic institution canperform.In a paper-based money system, ensuring price stability is the intrinsicand primary task of monetary policy.Ensuring a balanced economy can be added to this as a subsidiary,secondary task.However, at the same time, in avoiding inflationary and deflationaryprocesses and thereby preventing the associated expectations, theframework is created within which monetary policy has the greatestpossible scope for fulfilling this additional task.Typically, modern central bank mandates, including the Swiss mandate,have appropriated these insights.The Swiss National Bank’s monetary policies in the era of flexibleexchange rates since 1973 which, by comparison with other countries,have been exceptionally successful, can provide us with some importantexamples.6. The importance of central bank independence from politicsand social interest groupsSwitzerland is also an example of why it is important that the central bankbe independent of politics and interest groups.At the same time, it is obvious that central bank independence can neverbe more than relative in a democratic state.Although it can be granted by the legislator, it can always be repealedagain. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 69Independence removes the central bank from everyday political life,although at the same time it implies a clear responsibility towardspoliticians and the general public and presupposes a precise mandate forcentral bank policy.Theoretical arguments and empirical evidence demonstrate that there is aclear connection between the independence of a central bank and thequality of its policies – measured by the degree of monetary stability.At the same time there is no indication that, in long-run average terms,this is achieved at the cost of below- 3 If, for instance, central banks arerequired to pursue long-term employment and growth targets in additionto their price stability goals, they are being asked to achieve theunachievable.The result is often that neither of the targets is met.Average performance in the real economy or a higher level of instability inreal economic variables.Central bank independence is a key instrument for the creation ofcredibility, and for ensuring a policy of money value and monetarystability.Here, too, Swiss monetary policy over the past four decades provides uswith compelling examples.What is particularly important here is the independence of monetarypolicy from government financial policies.From a historical point of view, the possibility that monetary policy mightbe overshadowed by financial policy and subordinated to fiscalconsiderations is the greatest threat to ensuring stable monetaryconditions.In Switzerland, the condition of independence has always beencompletely fulfilled, apart from a short period at the time of the FirstWorld War. It is to be hoped that this will remain the case in future. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 707. Fixed versus flexible exchange rates, and the value ofmonetary sovereigntySwitzerland has had extensive experience with both fixed and flexibleexchange rates throughout its history.There are considerable advantages to a system of fixed exchange rates aslong it works smoothly.This was the case during the era of the classical gold standard, but alsofor the early years of the Bretton Woods system.However, a fixed exchange rate system presupposes that the main partiesinvolved are prepared to conduct mutually consistent monetary policies.They must agree on a joint stance with regard to the possibilities, targetsand procedures of monetary policy for it to be functional and viable.Ultimately a system of this kind calls for agreement not just in themonetary field but also as regards certain economic policy parameters inother areas, particularly with respect to fiscal stability and flexibility ofgoods and factor markets.Insufficient willingness to respect these conditions leads to thedevelopment of untenable international imbalances in the long term andto efforts to stabilise the system by means of administrative measures.These measures might either be trade impediments and restrictions oncapital movements or the establishment of international transfermechanisms.Inevitably, this means that the system becomes unstable.In the absence of these conditions, a system of fixed exchange rates maydevelop considerable potential for tension and turbulence.Switzerland has experienced this on several occasions, to its cost – duringsome of the Latin Monetary Union period in the 19th century, particularly _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 71extensively in the Great Depression of the 1930s, and again during thefinal years of the Bretton Woods system.Our country learned that, under such conditions, life with fluctuatingexchange rates is the lesser of two evils, and a regime of flexible exchangerates can be the more attractive alternative.Where it is impossible to achieve reliable, internationally well-anchoredbelief in and commitment to a community of stability it is better (when indoubt) to live with the possibility of occasional turmoil in a system offluctuating exchange rates than to exist with the dangers of anon-credible system whose coordination is only skin-deep.In this situation, the maintenance of monetary sovereignty is to berecommended as a valuable good, an option that should never berelinquished thoughtlessly or frivolously.In principle, even where fixed exchange rate commitments are enteredinto, such sovereignty allows for a return to an autonomous,self-determined monetary policy course at any time.The dangers and risks that can be linked to the premature surrender ofmonetary sovereignty to a higher community level – without priorcredible agreement on joint political and economic values – have beenclearly documented by the current confusion in the euro area.This is clearly seen if we compare the European Monetary Union of todaywith the Latin Monetary Union of the 19th century.At that time, there was no surrender of monetary sovereignty at unionlevel.Both the definitions and the statutory basis of the participant nationcurrencies remained national.The union was no more than an international agreement for the jointadoption of a given metal currency standard. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 72In principle, members could leave and return to a different currencypolicy at any time, and this was relatively easy to do – very unlike thesituation in the present currency union in Europe. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 73NUMBER 8High-level Expert group on reformingthe structure of the EU banking sectorpresents its reportThe Commission has today received the report prepared by theHigh-level Expert Group on reforming the structure of the EU bankingsector (MEMO/12/129).The Group chaired by Erkki Liikanen presented the main findings toMichel Barnier, Commissioner for internal market and services.Governor Erkki Liikanen said "The report contains the Groupsrecommendations for further reforms of the banking sector, includingstructural reform.Building on the substantial measures already under way, I believe that theGroups recommendations would if implemented provide for a safer,more stable and efficient banking system serving the needs of citizens,the EU economy and the internal market."Internal Market and Services Commissioner Michel Barnier said "I wouldlike to extend my thanks to Erkki Liikanen and the members of thegroup.This is an important report that will inform our policy on regulating thefinancial sector.The report underlines the excessive risks taken by banks in the past, andmakes important recommendations to make sure that banks work in theinterest of their customers".He continued: "This report will feed our reflections on the need forfurther action. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 74I will now consider the next steps, in which the Commission will look atthe impact of these recommendations both on growth and on the safetyand integrity of financial services.We need to look at these questions also in light of the financial reformsthat I have already put on the table of the European Parliament and theCouncil".In brief, the Group recommends actions in the five following areas:- Mandatory separation of proprietary trading and other high-risk trading activities,- Possible additional separation of activities conditional on the recovery and resolution plan,- Possible amendments to the use of bail-in instruments as a resolution tool,- A review of capital requirements on trading assets and real estate related loans,- A strengthening of the governance and control of banks.For further information, an executive summary of the report is also available (see link hereafter).BackgroundCommissioner Michel Barnier announced his decision to set up theGroup in November 2011.He then appointed Erkki Liikanen, Governor of the Bank of Finland anda former member of the European Commission, as Chairman.The members were appointed in February 2012. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 75They were chosen on the basis of their technical expertise andprofessional background, and were appointed in a personal capacity.The Group held monthly meetings, inviting different stakeholders, andorganised a public consultation in May.Its mandate was to determine whether, in addition to ongoing regulatoryreforms, structural reforms of EU banks would strengthen financialstability and improve efficiency and consumer protection, and if that isthe case to make recommendations as appropriate.High-level Expert Group on reforming the structure of the EUbanking sectorChaired by Erkki LiikanenLETTER FROM THE CHAIRMANCommissioner Michel Barnier established a High-level Expert Group onstructural bank reforms in February 2012.Our task has been to assess whether additional reforms directly targetedat the structure of individual banks would further reduce the probabilityand impact of failure, ensure the continuation of vital economic functionsupon failure and better protect vulnerable retail clients.We organised hearings with a large number of stakeholders whorepresented providers of banking services, consumers of such services,investors in banks, policymakers and academics.The Group has furthermore held a public consultation of stakeholders,the responses to which are published together with this report.In evaluating the European banking sector, the Group has found that noparticular business model fared particularly well, or particularly poorly, inthe financial crisis. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 76Rather, the analysis conducted revealed excessive risk-taking – often intrading highly-complex instruments or real estate-related lending – andexcessive reliance on short-term funding in the run-up to the financialcrisis.The risk-taking was not matched with adequate capital protection, andstrong linkages between financial institutions created high levels ofsystemic risk.A number of regulatory reforms have been initiated to address these andother weaknesses that endanger financial system stability.The Group has reviewed these on-going regulatory reforms, payingparticular attention to capital and liquidity requirements and to therecovery and resolution reforms.Stronger capital requirements will enhance the resilience of banks.The implementation of the new Capital Requirement Regulation andDirective (CRR/CRDIV) will constitute a major improvement in thisrespect.Connected to its mandate, the Group also expects the on-goingfundamental review of the trading book by the Basel Committee toimprove the control of market risk within the banking system.The Group sees the Commissions proposed Bank Recovery andResolution Directive as an essential part of the future regulatory structure.This proposal is a significant step forward in ensuring that a bank,regardless of its size and systemic importance, can be transformed andrecovered, or be wound down in a way that limits taxpayer liability for itslosses.The Group then had to assess, whether additional structural reforms areneeded. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 77As the work progressed, the Group considered two possible avenues inmore detail.The first avenue was based on the important role of recovery andresolutions plans and left the decision on the possible separation ofbanks’ activities conditional on the assessment of these plans; it alsoincluded proposals to tighten capital requirements.The second avenue was based on the mandatory separation of banks’proprietary trading and other risky activities.Both avenues are presented in the report. The Group assessed pros andcons of both avenues at length.Also, well-known events in the banking sector that happened during thework of the Group had an impact.The Group´s conclusion is that it is necessary to require legal separationof certain particularly risky financial activities from deposit-taking bankswithin a banking group.The central objectives of the separation are to make banking groups,especially their socially most vital parts (mainly deposit-taking andproviding financial services to the non-financial sectors in the economy),safer and less connected to high-risk trading activities and to limit theimplicit or explicit stake of taxpayer in the trading parts of bankinggroups.The Groups recommendations regarding separation concern businesseswhich are considered to represent the riskiest parts of trading activitiesand where risk positions can change most rapidly.Separation of these activities into separate legal entities within a group isthe most direct way of tackling banks’ complexity andinterconnectedness. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 78As the separation would make banking groups simpler and moretransparent, it would also facilitate market discipline and supervision and,ultimately, recovery and resolution.In the discussions within the Group, some members expressed apreference for a combination of measures: imposing a non-risk-weightedcapital buffer for trading activities and leaving the separation of activitiesconditional on supervisory approval of a recovery and resolution plan,rather than a mandatory separation of banking activities.In the spirit of transparency both basic alternatives and their motivationare presented in the report.However, the choice was made to recommend mandatory separation ofcertain trading activities.The report also makes other recommendations, for example concerningthe use of designated bail-in instruments, the capital requirements on realestate lending, consistency of internal models and sound corporategovernance.The Group presents its report to Commissioner Michel Barnier.We are fully aware that this gives a great responsibility to theCommission.It is now the task of the Commission to assess the report, organise theappropriate consultation of stakeholders and, finally, make the decisionon whether to present proposals on the basis of our Group´srecommendations.The proposals would also require an impact assessment according toCommission practices. The Group was assisted by a competentsecretariat from the Commission Services. We are grateful for theircontribution.Erkki LiikanenThe Chairman of the High-level Expert Group _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 79SUMMARY OF THE PROPOSALThe High-level Expert Group was requested to consider whether there isa need for structural reforms of the EU banking sector or not and to makeany relevant proposals as appropriate, with the objective of establishing astable and efficient banking system serving the needs of citizens, theeconomy and the internal market.The Group recommends a set of five measures that augment andcomplement the set of regulatory reforms already enacted or proposed bythe EU, the Basel Committee and national governments.First, proprietary trading and other significant trading activities should beassigned to a separate legal entity if the activities to be separated amountto a significant share of a banks business.This would ensure that trading activities beyond the threshold are carriedout on a stand-alone basis and separate from the deposit bank.As a consequence, deposits, and the explicit and implicit guarantee theycarry, would no longer directly support risky trading activities.The long-standing universal banking model in Europe would remain,however, untouched, since the separated activities would be carried out inthe same banking group.Hence, banks ability to provide a wide range of financial services to theircustomers would be maintained.Second, the Group emphasises the need for banks to draw up andmaintain effective and realistic recovery and resolution plans, as proposedin the Commissions Bank Recovery and Resolution Directive (BRR).The resolution authority should request wider separation than consideredmandatory above if this is deemed necessary to ensure resolvability andoperational continuity of critical functions. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 80Third, the Group strongly supports the use of designated bail-ininstruments.Banks should build up a sufficiently large layer of bail-inable debt thatshould be clearly defined, so that its position within the hierarchy of debtcommitments in a banks balance sheet is clear and investors understandthe eventual treatment in case of resolution. Such debt should be heldoutside the banking system.The debt (or an equivalent amount of equity) would increase overall lossabsorptive capacity, decrease risk-taking incentives, and improvetransparency and pricing of risk.Fourth, the Group proposes to apply more robust risk weights in thedetermination of minimum capital standards and more consistenttreatment of risk in internal models.Following the conclusion of the Basel Committees review of the tradingbook, the Commission should review whether the results would besufficient to cover the risks of all types of European banks.Also, the treatment of real estate lending within the capital requirementsframework should be reconsidered, and maximum loan-to-value (and/orloan-to-income) ratios included in the instruments available for micro-and macro-prudential supervision.Finally, the Group considers that it is necessary to augment existingcorporate governance reforms by specific measures to1) strengthen boards and management;2) promote the risk management function;3) rein in compensation for bank management and staff;4) improve risk disclosure and5) strengthen sanctioning powers. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 81EXECUTIVE SUMMARYThe High-level Expert Group was requested to consider in depth whetherthere is a need for structural reforms of the EU banking sector or not andto make any relevant proposals as appropriate, with the objective ofestablishing a safe, stable and efficient banking system serving the needsof citizens, the EU economy and the internal market.In evaluating the European banking sector, the Group has found that noparticular business model fared particularly well, or particularly poorly, inthe financial crisis.Rather, the analysis conducted revealed excessive risk-taking – often intrading highly-complex instruments or real estate-related lending – andexcessive reliance on short-term funding in the run-up to the financialcrisis.The risk-taking was not matched with adequate capital protection andhigh level of systemic risk was caused by strong linkages betweenfinancial institutions.A number of regulatory reforms have been initiated to address these andother weaknesses that endanger financial system stability.The Group has reviewed these ongoing regulatory reforms, payingparticular attention to capital and liquidity requirements and to therecovery and resolution reforms.Stronger capital requirements, in general, will enhance the resilience ofbanks; correct, to some extent, the incentives of owners and managers;and, will also help reduce the expected liability of taxpayers in the eventof adverse shocks to bank solvency.The implementation of the new Capital Requirement Regulation andDirective (CRR/CRDIV) will constitute a major improvement in all theserespects. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 82Connected to its mandate, the Group also expects the on-goingfundamental review of the trading book by the Basel Committee toimprove the control of market risk within the banking system.The Group sees the Commissions proposed Bank Recovery andResolution Directive (BRR) as an essential part of the future regulatorystructure.This proposal is a significant step forward in ensuring that a bank,regardless of its size and systemic importance, can be transformed andrecovered, or be wound down in a way that limits taxpayer liability for itslosses.The preparation and approval of recovery and resolution plans (RRPs) islikely to induce some structural changes within banking groups, reducingcomplexity and the risk of contagion, thus improving resolvability.However, despite these important initiatives and reforms, the Group hasconcluded that it is necessary to require legal separation of certainparticularly risky financial activities from deposit-taking banks within thebanking group.The activities to be separated would include proprietary trading ofsecurities and derivatives, and certain other activities closely linked withsecurities and derivatives markets, as will be specified below.The Group also makes suggestions for further measures regarding thebank recovery and resolution framework, capital requirements and thecorporate governance of banks.The objective is further to reduce systemic risk in deposit-banking andinvestment-banking activities, even when they are separated.The central objectives of the separation are to make banking groups,especially their socially most vital parts (mainly deposit-taking andproviding financial services to the non-financial sectors in the economy)safer and less connected to trading activities; and, to limit the implicit orexplicit stake taxpayer has in the trading parts of banking groups. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 83The Groups recommendations regarding separation concerns businesseswhich are considered to represent the riskiest parts of investment bankingactivities and where risk positions can change most rapidly.Separation of these activities into separate legal entities is the most directway of tackling banks’ complexity and interconnectedness.As the separation would make banking groups simpler and moretransparent, it would also facilitate market discipline and supervision and,ultimately, recovery and resolution.The proposal is outlined in more detail below.In the discussion within the Group, some members expressed apreference for a combination of measures: imposing a non-risk-weightedcapital buffer for trading activities and a separation of activitiesconditional on supervisory approval of a RRP, as outlined in Avenue 1 inSection 5.4.1, rather than a mandatory separation of banking activities.In the discussions, it was highlighted that the ongoing regulatory reformprogramme will already subject banks to sufficient structural changes andthat Avenue 1 is designed to complement these developments and couldthus be implemented without interfering with the basic principles andobjectives of those reforms.It was also argued that this approach specifically addresses problems ofexcessive risk-taking incentives and high leverage in trading activities;the risks in complex business models combining retail and investmentbanking activities; and, systemic risk linked to excessiveinterconnectedness between banks.Moreover, it was argued that Avenue 1 avoids the problems of having todefine ex ante the scope of activity to be separated or prohibited.Against the backdrop of the ongoing financial crisis and the fragility ofthe financial system, it was also seen that an evolutionary approach thatlimits the risk of discontinuities to the provision of financial servicescould be warranted. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 84Mandatory separation of proprietary trading activities and othersignificant trading activitiesThe Group proposes that proprietary trading and all assets or derivativepositions incurred in the process of market-making, other than theactivities exempted below, must be assigned to a separate legal entity,which can be an investment firm or a bank (henceforth the “tradingentity”) within the banking group.Any loans, loan commitments or unsecured credit exposures to hedgefunds (including prime brokerage for hedge funds), SIVs and other suchentities of comparable nature, as well as private equity investments,should also be assigned to the trading entity.The requirements apply on the consolidated level and the level ofsubsidiaries.The Group suggests that the separation would only be mandatory if theactivities to be separated amount to a significant share of a bank’sbusiness, or if the volume of these activities can be considered significantfrom the viewpoint of financial stability.The Group suggests that the decision to require mandatory separationshould proceed in two stages:- In the first stage, if a bank’s assets held for trading and available for sale, as currently defined, exceed (1) a relative examination threshold of 15-25% of the bank’s total assets or (2) an absolute examination threshold of EUR100bn, the banks would advance to the second stage examination.- In the second stage, supervisors would determine the need for separation based on the share of assets to which the separation requirement would apply. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 85 This threshold, as share of a bank’s total assets, is to be calibrated by the Commission. The aim of the calibration is to ensure that mandatory separation applies to all banks for which the activities to be separated are significant, as compared to the total balance sheet. In calibrating the threshold, the Commission is advised to consider different bases for measuring trading activity, including, for example, revenue data.Once a bank exceeds the final threshold, all the activity concerned shouldbe transferred to the legally-separate trading entity.The proposal should require a sufficient transition period to be assessedby the Commission.Finally, the smallest banks would be considered to be fully excluded fromthe separation requirement.All other banking business except that named above, would be permittedto remain in the entity which uses insured deposits as a source of funding(henceforth “deposit bank”), unless firm-specific recovery and resolutionplans require otherwise.These permitted activities include, but need not be limited to, lending tolarge as well as small and medium-sized companies; trade finance;consumer lending; mortgage lending; interbank lending; participation inloan syndications; plain vanilla securitisation for funding purposes;private wealth management and asset management; and, exposures toregulated money market (UCITS) funds.The use of derivatives for own asset and liability management purposes,as well as sales and purchases of assets to manage the assets in theliquidity portfolio, would also be permitted for deposit banks.Only the deposit bank is allowed to supply retail payment services. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 86Provision of hedging services to non-banking clients (e.g. using forex andinterest rate options and swaps) which fall within narrow position risklimits in relation to own funds, to be defined in regulation, and securitiesunderwriting do not have to be separated.These can thus be carried out by the deposit bank.The Group acknowledges the potential risks inherent in these activitiesand suggests that the authorities need to be alert to the risks arising fromboth of them.The trading entity can engage in all other banking activities, apart fromthe ones mandated to the deposit bank; i.e. it cannot fund itself withinsured deposits and is not allowed to supply retail payment services.The legally-separate deposit bank and trading entity can operate within abank holding company structure.However, the deposit bank must be sufficiently insulated from the risks ofthe trading entity.Transfer of risks or funds between the deposit bank and trading entitywithin the same group would be on market-based terms and restrictedaccording to the normal large exposure rules on interbank exposures.Transfers of risks or funds from the deposit bank to the trading entityeither directly or indirectly would not be allowed to the extent that capitaladequacy, including additional capital buffer requirements on top of theminimum capital requirements, would be endangered.The possibility of either entity having access to central bank liquiditydepends on the rules of the counterparty status in different jurisdictions.The deposit bank and trading entity are allowed to pay dividends only ifthey satisfy the minimum capital and capital buffer requirements.To ensure the resilience of the two types of entities, both the deposit bankand the trading entity would each individually be subject to all the _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 87regulatory requirements, such as the CRR/CRDIV and consolidatedsupervision, which pertain to EU financial institutions.Hence they must, for example, be separately capitalized according to therespective capital adequacy rules, including the maintenance of therequired capital buffers and possible additional Pillar 2 capitalrequirements.The specific objectives of separation are to1) limit a banking group’s incentives and ability to take excessive riskswith insured deposits;2) prevent the coverage of losses incurred in the trading entity by thefunds of the deposit bank, and hence limit the liability of taxpayer and thedeposit insurance system;3) avoid the excessive allocation of lending from the deposit bank to otherfinancial activities, thereby to the detriment of the non-financial sectors ofthe economy;4) reduce the interconnectedness between banks and the shadow bankingsystem, which has been a source of contagion in a system-wide bankingcrisis; and5) level the playing field in investment banking activities betweenbanking groups and stand-alone investment banks, as it would improvethe risk-sensitivity of the funding cost of trading operations by limitingthe market expectations of public protection of such activities.While pursuing these key objectives related to financial stability,separation also aims to maintain banks’ ability efficiently to provide awide range of financial services to their customers.For this reason, the separation is allowed within the banking group, sothat the same marketing organisation can be used to meet the variouscustomer needs. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 88Benefits to the customer from a diversity of business lines can thereforebe maintained.Moreover, as the proposal allows hedged trading and securitiesunderwriting to continue, it also leaves sufficient room and flexibility fordeposit banks to service corporate customers and thus fulfil their role infinancing the real economy.Similarly, the trading entity can engage in a broad range of activities.The proposal addresses the core weaknesses in the banking sector, whileretaining the key benefits of the universal banking model and allowing forbusiness model diversity.Finally, it is important that the proposal is sufficiently simple so as toensure harmonised implementation across Member States.The Group suggests that banking activities which naturally belongtogether can be conducted within the same legal entity.In particular, the proposed separation concerns both proprietary tradingand market-making, thus avoiding the ambiguity of defining separatelythe two activities.Similarly, the assets which are part of the separation do not include anyloans to non-financial firms, because differentiating among these (forexample, according to loan size) would be equally challenging at the EUlevel and important scale economies in corporate lending might be lost.Additional separation of activities conditional on the recoveryand resolution planThe BRR proposal of the Commission in June 2012 grants powers toresolution authorities to address or remove obstacles to resolvability.The Group emphasises the importance of two elements of the proposal inparticular, namely the recovery and resolution plan and the bail-inrequirements for debt instruments issued by banks (see the next section). _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 89In the Group’s view, producing an effective and credible RRP mayrequire the scope of the separable activities to be wider than under themandatory separation outlined above.The proposed BRR gives the resolution authority the powers to require abank to change its legal or operational structure to ensure that it can beresolved in a way that does not compromise critical functions, threatenfinancial stability or involve costs to the taxpayer are given to theresolution authority in the proposed BRR.The Group emphasises the need to draw up and maintain effective andrealistic RRPs.Particular attention needs to be given to a bank’s ability to segregate retailbanking activities from trading activities, and to wind down trading riskpositions, particularly in derivatives, in a distress situation, in a mannerthat does not jeopardize the bank’s financial condition and/orsignificantly contribute to systemic risk.Moreover, it is essential to ensure the operational continuity of a bank’sIT/payment system infrastructures in a crisis situation.Given the potential funding and liquidity implications, transaction servicecontinuity should be subject to particular attention in the RRP process.The Group supports the BRR provision that the EBA plays an importantrole in ensuring that RRPs and the integral resolvability assessments areapplied uniformly across Member States.The EBA would, accordingly, be responsible for setting harmonisedstandards for the assessment of the systemic impact of RRPs; as well asthe issues to be examined in order to assess the resolvability of a bank andtrigger elements that would cause a rejection of the plans.The triggers should be related to the complexity of the tradinginstruments and organisation (governance and legal structure) of thetrading activities, as these features materially affect the resolvability oftrading operations. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 90The trigger elements should also be related to the size of the riskpositions and their relation to market size in particular instruments, aslarge positions are particularly difficult to unwind in a market stresssituation.Possible amendments to the use of bail-in instruments as aresolution toolIn addition to the use of RRPs, the Group also strongly supports the useof designated bail-in instruments within the scope of the BRR, as itimproves the loss-absorbency ability of a bank.The power to write down claims of unsecured creditors or convert debtclaims to equity in a bank resolution process is crucial to ensure investorinvolvement in covering the cost of recapitalisation and/or compensationof depositors.It also reduces the implicit subsidy inherent in debt financing.This additionally improves the incentives of creditors to monitor thebank.A number of features of bail-in instruments have been outlined in theproposed BRR.For instance, the bail-in tool would only be used in conjunction with otherreorganisation measures, and the ex-ante creditor hierarchy is to berespected.However, the Group has come to the conclusion that there is a need tofurther develop the framework, so as to improve the predictability of theuse of the bail-in instrument.Specifically, the Group is of the opinion that the bail-in requirementought to be applied explicitly to a certain category of debt instruments,the requirement for which should be phased in over an extended period oftime. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 91This avoids congestion in the new issues market and allows the primaryand the secondary market to grow smoothly.However, banks should be allowed to satisfy any requirement to issuebail-inable debt instruments with common equity if they prefer to do so.This could be especially useful for smaller institutions, whose bail-ininstruments could face particularly narrow markets.The Group is also of the opinion that a clear definition would clarify theposition of bail-in instruments within the hierarchy of debt commitmentsin a bank’s balance sheet, and allow investors to know the eventualtreatment of the respective instruments in case of resolution.Detailing the characteristics of the bail-in instruments in this way wouldgreatly increase marketability of both new bail-inable securities and otherdebt instruments and facilitate the valuation and pricing of theseinstruments.In order to limit interconnectedness within the banking system andincrease the likelihood that the authorities are eventually able to apply thebail-in requirements in the event of a systemic crisis, it is preferable thatthe bail-in instruments should not be held within the banking sector.This would be best accomplished by restricting holdings of suchinstruments to non-bank institutional investors (e.g. investment fundsand life insurance companies).Bail-in instruments should also be used in remuneration schemes for topmanagement so as best to align decision-making with longer-termperformance in banks.The Group suggests that this issue should be studied further.A review of capital requirements on trading assets and real estaterelated loans _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 92Model-based capital requirements related to risks in trading-book assetsmay suffer from modelling risks and measurement errors.In particular, tail-risks and systemic risks (including the impact onmarket liquidity of failures of major players) are not well-accounted for.Significant operational risks are related to all trading activities asdemonstrated by several incidents of substantial loss events.The current operational risk capital charges are derived fromincome-based measures and do not reflect the volume of trading bookassets.Moreover, significant counterparty and concentration risks can be relatedto all trading activities.The mandatory separation proposed by the Group leaves substantialroom for customer-driven and hedged trading and risk managementactivities in deposit banks so as to ensure the ability of these entities toservice the real economy.On the other hand, the significant risks of the separated or stand-alonetrading entities warrant robust capital rules to control the risk posed tothe parent group and financial system as a whole.Thus, the weaknesses in the capital requirements presented above haveimplications for both the deposit bank and trading entity.The Basel Committee has launched an extensive review of trading-bookcapital requirements.The Group welcomes this review. In its work, the Group has identifiedtwo approaches to improve the robustness of the trading book capitalrequirements:- setting an extra, non-risk based capital buffer requirement for all trading-book assets on top of the risk-based requirements as detailed under Avenue 1 in Section 5.4.1; and/or _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 93- introducing a robust floor for risk-based requirements (i.e. risk weighted assets (RWA)).The benefit of the first approach (an extra capital buffer) is that it wouldimprove protection against operational risks and reduce leverage, and itwould not interfere with banks’ incentives to use and further developinternal models – as it would come on top of the risk-based requirements.The benefit of the second approach (a robust floor for RWAs) is that itwould more directly address the possibility of model errors in modellingmarket risks.The Group suggests that the Basel Committee takes into account in itswork the shortcomings of the present capital requirements as identifiedby the Group and that an evaluation be carried out by the Commission,after the outcome of the Basel Committee’s review, as to whether theproposed amendments to the trading-book capital requirements would besufficient to cover the risks of both deposit banks and trading entities.The Group also acknowledges that the RWAs calculated by individualbanks’ internal models (IRB) can be significantly different for similarrisks. Supervisors are currently working on this issue.The Group encourages them to take strong and coordinated action toimprove the consistency of internal models across banks.The treatment of risks should be more harmonised in order to producegreater confidence in the adequacy and consistency of the IRB-basedcapital requirements.This work should be one key step towards a common Europeansupervisory approach.The Group suggests that the Commission should consider furthermeasures regarding the treatment of real estate-related lending within thecapital requirement framework. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 94History has shown that many systemic banking crises resulting in largecommitments of public support have originated from excessive lending inreal estate markets.This has often been coupled with funding mismatches and over-relianceon wholesale funding.The current levels of RWAs based on banks’ internal models andhistorical loss data tend to be quite low compared to the losses incurred inpast real estate-driven crises.The EBA and the new single euro area supervisory authority should makesure that capital adequacy framework includes sufficient safeguardsagainst substantial property market stress (e.g. via robust floors on theRWAs calculated by internal models).Moreover, insufficient attention was given to macro-prudential issuespreceding the financial crisis.In the current European System of Financial Supervision, the EuropeanSystemic Risk Board (ESRB) has been given the responsibility formacro-prudential supervision at the EU level, whereas the institutionalstructures at a national level are still to be defined in most Europeancountries.Effective macro-prudential policy needs appropriate tools. As a directmeasure to limit the risks stemming from real estate markets, the ESRBrecommends that loan-to-value (LTV) and/or loan-to-income (LTI) capsare included in the macro-prudential toolbox.The Group fully supports this recommendation and further recommendsthat strict caps to the value of these ratios should be provided in allMember States and implemented by national supervisors.The Group welcomes the implementation of the minimum leverage ratiorequirement as a backstop to the risk-weighted capital requirement.The monitoring of the leverage ratio as defined in the CRR/CRDIV willprovide vital information to be used in the calibration. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 95In due course, consideration should be given as to whether therequirement currently planned for the leverage ratio is sufficient.The Group also considers that the adequacy of the current large exposurelimits should be assessed regarding inter-institution and intra-groupexposures.In particular, the adequacy of the current maximum limit oninter-institution exposures effectively to limit excessiveinterconnectedness between financial institutions and systemic risksshould be assessed.It should also be considered whether the same tightened limit should beapplied to intra-group exposures (in section 5.5.1 it is suggested that thesame exposure limits ought to apply to intra-group exposures).The latter could be important to limit the extent of exposure of thedeposit bank to the trading entities within the same banking group.Strengthening the governance and control of banksGovernance and control is more important for banks than for non-banks,given the formers systemic importance, ability quickly to expand andcollapse; higher leverage; dispersed ownership; a predominantlyinstitutional investor base with no strategic/long-term involvement; and,the presence of (underpriced) safety nets.A banks board and management are responsible for controlling the levelof risk taken.However, the financial crisis has clearly highlighted that the governanceand control mechanisms of banks failed to rein in excessive risk-taking.The difficulties of governance and control have been exacerbated by theshift of bank activity towards more trading and market-related activities.This has made banks more complex and opaque and, by extension, moredifficult to manage. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 96It has also made them more difficult for external parties to monitor, bethey market participants or supervisors.As regards the former, the increase in size and the advent of banks thatare too-big-to-fail have further reduced market participants incentives tomonitor banks effectively.As regards the latter, supervisors ability to monitor banks has proveninadequate, in particular when it came to understanding, monitoring andcontrolling the complexity and interconnectedness of banks thatexpanded increasingly in trading activities.Accordingly, strengthening governance and control is essential. Buildingon the corporate governance reforms currently under consideration and inaddition to the reform proposals outlined above, it is necessary further to:(i) strengthen boards and management;(ii) promote the risk management function;(iii) rein in compensation;(iv) facilitate market monitoring; and,(v) strengthen enforcement by competent authorities.More specifically:Governance and control mechanisms:Attention should be paid to the governance and control mechanisms of allbanks.More attention needs to be given to the ability of management and boardsto run and monitor large and complex banks.Specifically, fit-and-proper tests should be applied when evaluating thesuitability of management and board candidates; _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 97Risk management:In order to improve the standing and authority of the risk managementfunction within all banks, so as to strengthen the control mechanismwithin the group and to establish a risk culture at all levels of financialinstitutions, legislators and supervisors should fully implement the CRDIII and CRD IV proposals.In addition, while the CRD often remains principles-based, level 2 rulesmust spell out the requirements on individual banks in much greaterdetail in order to avoid circumventions.For example, there should be a clear requirement for Risk and ControlManagement to report to Risk and Audit Committees in parallel to theChief Executive Officer (CEO);Incentive schemes:One essential step to rebuild trust between the public and bankers is toreform banks remuneration schemes, so that they are proportionate tolong-term sustainable performance.Building on existing CRD III requirement that 50% of variableremuneration must be in the form of the banks shares or otherinstruments and subject to appropriate retention policies, a share ofvariable remuneration should be in the form of bail-in bonds.Moreover, the impact of further restrictions (for example to 50%) on thelevel of variable income to fixed income ought to be assessed.Furthermore, a regulatory approach to remuneration should beconsidered that could stipulate more absolute levels to overallcompensation (e.g. that the overall amount paid out in bonuses cannotexceed paid-out dividends).Board and shareholder approvals of remuneration schemes should beappropriately framed by a regulatory approach; _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 98Risk disclosure:In order to enhance market discipline and win back investor confidence,public disclosure requirements for banks should be enhanced and mademore effective so as to improve the quality, comparability andtransparency of risk disclosures.Risk disclosure should include all relevant information, and notablydetailed financial reporting for each legal entity and main business lines.Indications should be provided of which activities are profitable andwhich are loss-making, and be presented in easily-understandable,accessible, meaningful and fully comparable formats, taking into accountongoing international work on these matters; andSanctioning:In order to ensure effective enforcement, supervisors must have effectivesanctioning powers to enforce risk management responsibilities,including sanctions against the executives concerned, such as lifetimeprofessional ban and claw-back on deferred compensation. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 99NUMBER 9A Statement by HisExcellency the Governor of Saudi Arabian Monetary Agency,Dr. Fahad bin Abdullah AlmubarakOn the occasion of the National Day of the Kingdom of Saudi ArabiaThe 7th of Dhual-Qa’dah 1433H marks the National Day of the Kingdomof Saudi Arabia.It is a historic day on which King Abdul Aziz Bin Abdul Rahman Al-Saud- may Allah bless his soul- unified this homeland, which is dear to all ofus. By the grace of Allah, we started to enjoy prosperity, welfare,well-being, security and safety.The celebration of this day every year reminds us of the evolutionwitnessed by our country at all levels since its unification by King AbdulAziz – may Allah bless his soul.Education, health, water, and electricity services, as well as, roads havespread over all parts of the Kingdom of Saudi Arabia.One of the most important achievements in the past decades is themagnificent investment made in human resources, particularly in theeducation sector.At the end of 2011, the number of general education male and femalestudents, in the Kingdom, amounted to 6.4 million, receiving education at26.6 thousand schools, and taught by 453.2 thousand female and maleteachers.During the same period, the number of university male and femalestudents went up to 925.0 thousand, apart from more than 125 thousandfemale and male students on scholarships abroad under the program ofthe Custodian of the Two Holy Mosques King Abdullah Bin Abdul Aziz.In the economic field, the Kingdom plays a great and effective role in theglobal economy. It is a member of G20 since its establishment. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 100This group includes the largest and most important economies in theworld, and it produces about 85 percent of the global GDP, and representstwo-thirds of the world population.The Kingdom is also an effective member of the IMF, the World Bank,the Bank for International Settlements, the Basel Committee on BankingSupervision, and the Financial Stability Board.Moreover, the Kingdom is one of the largest contributors to a number ofregional institutions, such as the Islamic Development Bank, the ArabMonetary Fund, the Arab Fund for Economic and Social Development,the Arab Bank for Economic Development in Africa, the Arab Authorityfor Agricultural Investment and Development, the Arab Investment andExport Credit Guarantee Corporation, and the OPEC Fund.Banking services have witnessed considerable development andexpansion.At the end of the second quarter of 2012, the number of domestic banksoperating in the Kingdom stood at 12 with 1661 operating branches andthat of the branches of foreign banks 11.Total credit provided by domestic banks to the private sector amountedto Rls 933.4 billion.Money supply amounted to more than Rls 1.3 trillion at the end of thesame period and commercial banks’ assets went beyond Rls 1.6 trillion,maintaining their marked solvency.The number of automated teller machines (ATMs) in the Kingdom was12.2 thousand during the second quarter of 2012, and that of ATM cardsissued to citizens and residents exceeded 15.0 million.The number of points of sale (POS) terminals exceeded 87.2 thousand.Banking services have developed tremendously in line with recentinternational standards, particularly in the area of financial payment andsettlement systems such as the Automated Clearing House (ACH)System, Saudi Payment Network (SPAN) and the Saudi Arabian RiyalInterbank Express System (SARIE). _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 101Many banking services are being carried out via the internet, TelephoneBanking, and other electronic systems such as “SADAD” System forpaying public utilities bills and fees, contributing to smooth and easyperformance of financial transactions by citizens and residents at a veryreasonable cost.The great achievements made by our country make it incumbent upon usto maintain and enhance them and exert further efforts to protect them.On this happy occasion, I am pleased to extend my highestcongratulations to His majesty the Custodian of the Two Holy Mosques,King Abdullah Bin Abdul Aziz, His loyal Crown Prince, the honorableRoyal Family, and the Saudi faithful people, praying to Allah to alwaysreturn this occasion with our country enjoying security, stability andprosperity. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 102NUMBER 10German bankssuccessfully completeEU-wide recapitalisation exerciseAfter deduction of the "sovereign capital buffer", all 12 Germaninstitutions in the sample achieved the minimum core tier 1 capital ratioof 9% as at 30 June 2012.The average ratio is 10.7%, which means all institutions taken togetherexceed the EBA minimum capital requirement by €15.5 billion.The five banks which were found to need an additional €12.9 billion as at30 September 2011 have covered this requirement.Results per bankAccording to the Recommendation issued by the European BankingAuthority’s (EBA) regarding banks’ recapitalisation, participatinginstitutions were to have a core tier 1 capital ratio less the sovereigncapital buffer, expressed in terms of risk-weighted assets, of at least 9%.The sovereign capital buffer is the capital buffer for fair value losses onexposures to member states of the European Economic Area.All German banks participating in the recapitalisation exercise achievedthis capital ratio. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 103BackgroundIn order to strengthen the capital base of European banks given theshadow cast by the European sovereign debt crisis, on 26 October 2011the European heads of state or government adopted a bankrecapitalisation programme for the member states of the EuropeanUnion.In light of the exceptional market situation, the programme is designed torestore the confidence of investors in banks’ ability to withstand furthershocks.In November 2011, the EBA worked together with the nationalsupervisory authorities in coordinating the collection of data and thecalculation of the capital needed by the 71 banks surveyed. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 104Germany was represented by the same 13 banks that had already beensurveyed as part of the EU-wide stress test in the summer of 2011. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 105Certified Risk and Compliance Management Professional(CRCMP) distance learning and online certification program.Companies like IBM, Accenture etc.consider the CRCMP a preferredcertificate. You may find more if yousearch (CRCMP preferred certificate)using any search engine.The all-inclusive cost is $297.What is included in the price:A. The official presentations we usein our instructor-led classes (3285 slides)The 2309 slides are needed for the exam, as all the questions arebased on these slides. The remaining 976 slides are for reference.You can find the course synopsis at:www.risk-compliance-association.com/Certified_Risk_Compliance_Training.htmB. Up to 3 Online ExamsYou have to pass one exam.If you fail, you must study the officialpresentations and try again, but you do not need to spend money. Upto 3 exams are included in the price.To learn more you may visit:www.risk-compliance-association.com/Questions_About_The_Certification_And_The_Exams_1.pdfwww.risk-compliance-association.com/CRCMP_Certification_Steps_1.pdfC. Personalized Certificate printed in full colorProcessing, printing, packing and posting to your office or home. _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
    • P a g e | 106D. The Dodd Frank Act and the newRisk Management Standards (976slides, included in the 3285 slides)The US Dodd-Frank Wall Street Reformand Consumer Protection Act is themost significant piece of legislationconcerning the financial servicesindustry in about 80 years.What does it mean for risk andcompliance management professionals?It means new challenges, new jobs, newcareers, and new opportunities.The bill establishes new riskmanagement and corporate governanceprinciples, sets up an early warningsystem to protect the economy from future threats, and brings moretransparency and accountability.It also amends important sections of the Sarbanes Oxley Act. Forexample, it significantly expands whistleblower protections under theSarbanes Oxley Act and creates additional anti-retaliationrequirements.You will find more information at:www.risk-compliance-association.com/Distance_Learning_and_Certification.htm _____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com